e10vk
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark One)
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Fiscal Year Ended December 31, 2005
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File Number 1-8514
SMITH INTERNATIONAL, INC.
(Exact name of Registrant as specified in its charter)
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| Delaware
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95-3822631 |
| (State or other jurisdiction of incorporation or organization)
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(I.R.S. Employer Identification No.) |
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| 411 North Sam Houston Parkway, Suite 600 |
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| Houston, Texas
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77060 |
| (Address of principal executive offices)
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(Zip Code) |
Registrant’s telephone number, including area code (281) 443-3370
Securities Registered Pursuant to Section 12(b) of the Act:
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| Title of Each Class |
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Name of Each Exchange on Which Registered |
| Common Stock, $1.00 par value
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New York Stock Exchange, Inc. |
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Pacific Exchange, Inc. |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined
in Rule 405 of the Act. Yes þ No o.
Indicate by check mark if the registrant is not required to file reports pursuant to Section
13 or Section 15(d) of the Act. Yes o No þ.
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 þ No o .
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation
S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge,
in definitive proxy or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated
filer” in Rule 12b-2 of the Act.
Large Accelerated Filer þ Accelerated Filer o Non-Accelerated Filer o .
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Act). Yes o No þ.
The aggregate market value of the voting stock held by non-affiliates on June 30, 2005 was
$6,367,781,265 (199,930,338 shares at the closing price on the New York Stock Exchange of $31.85,
as adjusted for the two-for-one stock split effective August 24, 2005). On June 30, 2005,
212,332,278 shares of common stock were outstanding. For this purpose all shares held by officers
and directors and their respective affiliates are considered to be held by affiliates, but neither
the Registrant nor such persons concede that they are affiliates of the Registrant.
There were 213,757,655 shares of common stock outstanding on March 6, 2006.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement related to the Registrant’s 2006 Annual Meeting of
Stockholders are incorporated by reference into Part III of this Form.
PART I
Item 1. Business
General
Smith International, Inc. (“Smith” or the “Company”) is a leading worldwide supplier of
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 equipment, waste-management services, production chemicals, three-cone and
diamond drill bits, turbines, 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, fittings,
mill, safety and other maintenance products.
The Company was incorporated in the state of California in January 1937 and reincorporated
under Delaware law in May 1983. The Company’s executive offices are headquartered at 411 North Sam
Houston Parkway, Suite 600, Houston, Texas 77060 and its telephone number is (281) 443-3370. The
Company’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K
and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 are made available free of charge on the Company’s Internet website
at www.smith.com as soon as reasonably practicable after the Company has electronically
filed such material with, or furnished it to, the Securities and Exchange Commission. The
Company’s Corporate Governance Guidelines, Code of Business Conduct and Ethics and the charters of
the Audit Committee, Compensation and Benefits Committee and Nominating and Corporate Governance
Committee are also available on the Investor Relations section of the Company’s Internet website.
The Company intends to disclose on its website any amendments or waivers to its Code of Business
Conduct and Ethics that are required to be disclosed pursuant to Item 5.05 of Form 8-K. Printed
copies of these documents are available to stockholders upon request.
The Company’s operations are aggregated into two reportable segments: Oilfield Products and
Services and Distribution. The Oilfield Products and Services segment consists of: M-I SWACO, a 60
percent-owned joint venture which provides drilling and completion fluid systems and services,
solids-control and separation equipment, waste-management services and oilfield production
chemicals; Smith Technologies, which manufactures and sells three-cone drill bits, diamond drill
bits and turbine products; and Smith Services, which manufactures and markets products and services
used for drilling, workover, well completion and well re-entry operations. The Distribution
segment consists of one business unit, Wilson, which markets pipe, valves and fittings as well as
mill, safety and other maintenance products to energy and industrial markets.
Financial information regarding reportable segments and international operations appears in
“Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in Note
15 of the Notes to Consolidated Financial Statements included elsewhere in this Form 10-K.
Information related to business combinations appears in Note 3 of the Notes to Consolidated
Financial Statements included elsewhere in this Form 10-K.
Business Operations
Oilfield Products and Services Segment
M-I SWACO
Fluid Products and Services. M-I SWACO is a leading worldwide provider of drilling, reservoir
drill-in and completion fluid systems, products and engineering services to end users engaged in
drilling oil and natural gas wells. Drilling fluids are used to cool and lubricate the bit during
drilling operations, contain formation pressures, suspend and remove rock cuttings from the hole
and maintain the stability of the wellbore. Engineering services are provided to ensure that the
fluid products are applied effectively to optimize drilling operations. These services include
recommending products and services during the well planning phase; monitoring drilling fluid
properties; recommending adjustments during the drilling phase; and analyzing/benchmarking well
results after completion of the project to improve the efficiencies of future wells.
M-I SWACO offers water-base, oil-base and synthetic-base drilling fluid systems. Water-base
drilling fluids are the world’s most widely utilized systems, having application in both land and
offshore environments. Typically, these systems comprise an engineered blend of weighting
materials used to contain formation pressures, and a broad range of chemical additives, designed to
yield the specific drilling performance characteristics required for a given drilling project.
Oil-base drilling fluids, which primarily are used to drill water-sensitive shales, reduce torque
and drag and are widely used in areas where stuck
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pipe is likely to occur. In certain drilling areas of the world, oil-base systems exhibit comparably higher penetration rates when compared to water-base systems, significantly
reducing time on location and overall drilling costs. Synthetic-base drilling fluids are used in
drilling environments where oil-base fluids are environmentally prohibited and provide the
performance benefits of oil-base systems. Synthetic-base systems are particularly advantageous in
the deepwater environment. M-I SWACO also provides a comprehensive line of reservoir drill-in
fluids which combine the high performance properties of a premium drilling fluid with minimal
damaging characteristics of a brine completion fluid.
Completion fluids (clear brines) are solids-free, clear-salt solutions with high specific
gravities and are non-damaging to the producing formation. Operators use these specially designed
fluid systems in combination with a comprehensive range of specialty chemicals to control
bottom-hole pressures, while meeting the specific corrosion inhibition, viscosity and fluid loss
requirements necessary during the completion and workover phase of a well. These systems are
specially engineered to maximize well production by minimizing formation damage that can be caused
by solids-laden systems. M-I SWACO provides a complete line of completion fluids products and
services, including low- and high-density brines, specialty chemicals, filtration and chemical
treatment services, wellsite engineering and technical and laboratory support services.
Fluid Competition. The major competitors in the worldwide drilling fluids market, which
approximated $4.7 billion in 2005, are Halliburton Energy Services (a division of Halliburton
Company (“Halliburton”)) and Baker Hughes Drilling Fluids (a division of Baker Hughes, Inc. (“Baker
Hughes”)). While M-I SWACO and these companies supply a majority of the market, the drilling
fluids industry is highly competitive, with a significant number of smaller, locally based
competitors. The major competitors in the worldwide completion fluids market, which approximated
$0.8 billion in 2005, are Baroid Completion Fluids (a division of Halliburton), Tetra Technologies,
Inc., BJ Services Company and Ambar, Inc.
Generally competition for sales of drilling and completions fluids is based on a number of
factors, including wellsite engineering services, product quality and availability, technical
support, service response and price.
M-I SWACO Drilling Waste Management. M-I SWACO provides services, equipment and engineering
for solids control, pressure control and waste management to the worldwide drilling market.
Solids-control equipment is used to remove drill cuttings from the fluid system, allowing the
drilling fluid to be cleaned and recirculated. Solids are normally separated from the drilling
fluid using one or a combination of the following: balanced elliptical and linear-motion shale
shakers, desanders, desilters, hydroclones, mud cleaners and centrifuges. M-I SWACO designs,
manufactures, sells and rents a comprehensive, proprietary line of this equipment for oil and gas
drilling processes throughout the world. The Company is also a leading manufacturer and supplier
of screens used in solids-control equipment for both oilfield and certain industrial markets. M-I
SWACO complements its product offering by providing engineering and technical support to operators
and drilling contractors from the planning stages of their projects through waste removal and site
remediation.
Operators employ M-I SWACO-manufactured pressure-control equipment to drill in sour-gas and
high-pressure zones. Well killing and high-pressure control drilling chokes, together with related
operating consoles, are used in the drilling process during well kicks and well clean-up and
testing operations. Degassers and mud gas separators are designed to remove and vent entrained
gases, including toxic gases such as hydrogen sulfide and corrosive oxygen, from the drilling mud.
This equipment reduces the risk of dangerous and costly blowouts caused by recirculating mud that
contains natural gas. Key products in M-I SWACO’s pressure control product line include the
Mud D-Gasser® and Super Choke™, both of which hold strong market
positions as do the Super Mud Gas SeparatorÔ and the Super
AutochokeÔ.
With drilling operations expanding into more environmentally sensitive areas, there has been
increased focus on the effective collection, treatment and disposal of waste produced during the
drilling of a well. M-I SWACO provides operators with solutions designed to minimize and treat
drilling waste. The Company provides a suite of waste handling, minimization and management
products and services, including the CleanCut® pneumatic conveyance system for
collection and transportation of drill cuttings related to offshore drilling programs. M-I SWACO
also provides rig vacuum systems for cuttings recovery, high-gravity force drying equipment for
liquid/solid separation and cuttings slurification and re-injection processes for reducing haul-off
waste. In addition, through the Thermal Phase Separation™ process, M-I SWACO provides
operators a proven technology for maximizing the recovery of drilling fluids, while minimizing
wastes. M-I SWACO’s waste treatment services encompass a wide range of activities, including site
assessment, drill cuttings injection, water treatment, pit closure and remediation, bioremediation,
dewatering and thermal processing. The Company has established EnviroCenters®
in Norway, Germany and the United States designed specifically for recovering, treating and
recycling solid and liquid drilling wastes.
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M-I SWACO Drilling Waste Management Competition. M-I SWACO competes with Brandt/Rigtech (a
subsidiary of National Oilwell Varco, Inc.(“National-Oilwell Varco”)) and Derrick/Oil Tools.
Additionally, there are a number of regional suppliers that provide a limited range of equipment and services tailored for local markets. Competition is based on product availability, equipment
performance, technical support and price.
Oilfield Production Chemicals. M-I SWACO provides a line of oilfield specialty chemicals and
related technical services through its Oilfield Production Chemical division, acquired in 2003.
Oilfield production chemicals are used to enhance the flow of hydrocarbons from the wellbore by
eliminating paraffin, scale and other byproducts encountered during the production process.
Oilfield production chemicals are also used to protect piping and other equipment associated with
the production, transportation and processing of oil and gas.
Production Chemical Competition. The major competitors in the worldwide oilfield production
chemical market include Baker Petrolite (a division of Baker Hughes), Nalco Energy Services (a
division of Nalco Company) and Champion Technologies, Inc. Generally, competition is based on
product quality, product performance, technical support and price.
Smith Technologies
Products and Services. Smith Technologies is a worldwide leader in the design, manufacture
and marketing of drill bits primarily used in drilling oil and natural gas wells. In addition,
Smith Technologies is a leading provider of downhole turbine drilling products (referred to as
“turbodrills”) and services that enhance the operating performance of petroleum drill bits in
certain applications. Smith Technologies’ product offerings are designed principally for the
premium market segments where faster drilling rates and greater footage drilled provide significant
economic benefits in reducing the total cost of a well.
Smith Technologies designs, manufactures and markets three-cone drill bits for the petroleum
industry, ranging in size from 31/2 to 32 inches in diameter. Three-cone bits work by crushing and
shearing the rock formation as the bit is turned. These three-cone bits comprise two major
components — the body and the cones, which contain different types of pointed structures referred
to as “cutting structures” or “teeth.” The cutting structures are either an integral part of the
steel cone with a hardmetal-applied surface (referred to as “milled tooth”) or made of an inserted
material (referred to as “insert”), which is usually tungsten carbide. The Company also produces
three-cone drill bits in which the tungsten carbide insert is coated with polycrystalline diamond.
In certain formations, bits produced with diamond-enhanced inserts last longer and increase
penetration rates, which substantially decreases overall drilling costs. Smith Technologies is a
leading provider of drill bits utilizing diamond-enhanced insert technology.
In addition, Smith Technologies designs, manufactures and markets diamond drill bits. Diamond
bits consist of a single body made of either a matrix powder alloy or steel. The cutting
structures of diamond bits consist of either polycrystalline diamond cutters, which are brazed on
the bit, or natural or synthetic diamonds, which are impregnated in the bit. These bits, which
range in size from 23/4 to 26 inches in diameter, work by shearing the rock formation with a milling
action as the bit is turned. Smith Technologies has experienced increased demand for rental of
diamond bits as improved designs and manufacturing processes have allowed a diamond bit to be used
to drill multiple wells in certain markets.
Smith Technologies also designs, assembles and markets a comprehensive line of turbodrills and
provides related technical support. Turbodrills, which operate directly above the drill bit, use
the hydraulic energy provided by drilling fluid pumps on the rig floor to deliver torque to and
rotate the drill bit. These proprietary tools are designed to provide faster rates of penetration,
operate in much higher temperature formations, deliver longer downhole life and produce better
wellbore quality than conventional positive displacement drilling motors. The turbine drilling
motor provides operators with cost effective solutions in demanding environments such as horizontal
applications, hard formations and high-temperature zones.
The Company manufactures polycrystalline diamond and cubic boron nitride materials that are
used in the Company’s three-cone and diamond drill bits and other specialized cutting tools. The
Company believes that it is one of the world’s largest manufacturers of polycrystalline diamond for
use in oilfield applications. Smith Technologies also develops and uses patented processes for
applying diamonds to a curved surface which optimize the performance of inserts used in drill bits.
As a result, the Company believes that Smith Technologies enjoys a competitive advantage in both
material cost and technical ability over other drill bit companies. In addition, the Company’s
in-house diamond research, engineering and manufacturing capabilities enhance the Company’s ability
to develop the application of diamond technology across other Smith product lines and into
non-energy markets.
Competition. Hughes Christensen (a division of Baker Hughes), Security DBS (a division of
Halliburton) and ReedHycalog (a division of Grant Prideco, Inc.) are the three major competitors of
Smith Technologies in the drill bit business. While Smith Technologies and these companies supply the majority of the worldwide drill bit market,
which approximated $2.0
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billion in 2005, they compete with more than 20 companies. Generally,
competition for sales of drill bits is based on a number of factors, including performance,
quality, reliability, service, price, technological advances and breadth of products. The Company
believes its quality, reliability and technological advances, such as diamond-enhanced inserts,
provide its products with a competitive advantage.
Smith Services
Products and Services. Smith Services is a leading global provider of technologically
advanced drilling, fishing, remedial, multilateral and completion products, services and solutions
to the oil and gas drilling industry.
Smith Services’ Drilling Products and Services business provides a broad range of downhole
impact tools for drilling applications as well as numerous other specialized downhole drilling
products and services. Smith Services sells and rents impact drilling tools such as the
Hydra-Jar®Tool and the Accelerator®Tool, which are used to
free stuck drill strings during the drilling process. Additionally, Drilling on Gauge Subs and
Borrox AP Reamers are some of the Company’s tools used by operators for maintaining hole gauge and
quality of the wellbore. Smith Services also offers tubular drill string components, such as drill
collars, subs, stabilizers, kellys and Hevi-WateÔDrillPipe, and provides related
inspection services, including drillstring repair and rebuild services. These components and their
placement in the drillstring are supported by engineering and field technical services in order to
optimize bottom hole management techniques. Through state-of-the-art software, Smith Services aids
the customer in maximizing the life of drillstring components. Rotating control devices for flow
control in underbalanced / managed pressure drilling applications and automatic connection torque
monitoring and control systems are designed and manufactured by Smith Services. Smith Services
also manufactures and markets hole openers and underreamers which are designed to create larger
hole diameters in certain sections of the wellbore. The Company’s patented
Rhino® Reamer, Reamaster® and simultaneous drilling and
hole enlargement system are three examples of products that aid the customer in realizing lower
drilling costs through technology. Through the use of the simultaneous drilling and hole
enlargement system above the drill bit, the operator may drill the main well bore with the bit and
enlarge the diameter of the hole above the drill bit in the same run.
Smith Services’ Fishing and Remedial Services business provides a comprehensive package of
fishing, remedial and thru-tubing services. Fishing operations clear and remove obstructions from a
wellbore that may arise during drilling, completion or workover activities or during a well’s
production phase. This operation requires a wide variety of specialty tools, including fishing
jars, milling tools and casing cutters, all of which are manufactured by Smith Services. These
tools are operated by Company service personnel or sold or rented to third-party fishing companies.
Smith Services provides Wellbore Departure™ Systems through the manufacture of proprietary
casing exit tools which are installed by trained technicians. These systems, which include the
patented Trackmaster® Plus Whipstock System, allow the operator to divert
around obstructions in the main wellbore or reach multiple production zones from the main wellbore
(known as multilateral completions). In addition, Smith Services’ Geotrack™ Whipstock
System mills the casing exit and continues to drill several hundred feet of formation in a
single trip, saving the customer time and reducing their overall drilling costs. The Company also
provides mechanical, hydraulic and explosive pipe-cutting services to remove casing during well or
platform abandonment.
Smith Services’ Completion Systems business specializes in providing fit-for-purpose liner
hanger systems, liner cementing equipment, isolation packers, retrievable and permanent packers,
and drillable bridge and frac plugs. Liner hangers allow strings of casing to be suspended within
the wellbore without having to extend the string all the way to the surface and are also used to
isolate production zones and formations. Most directional and multilateral wells include one or
more hangers due to complex casing programs and need for zonal isolation. Using Smith Services’
Pocket SlipÔ liner hanger system, long or heavy liners can be suspended
with minimal casing distortion and maximum flow-by area. Packers are mechanically or hydraulically
actuated devices which lock into place at specified depths in the well and provide a seal between
zones through expanding-element systems. The devices therefore create isolated zones within the
wellbore to permit either specific formation production or allow for certain operations, such as
cementing or acidizing, to take place without damaging the reservoir. The Smith Services
IsofracÔ packer selectively isolates multiple zones in a single trip to reduce
fracturing job time, while the Long ReachÔ packer facilitates successful liner
deployment in vertical and long reach horizontal wellbores without excessive work string
manipulation. In addition, Smith Services’ top drive cementing manifold eliminates cement
contamination of top drive components by creating a flow path for cement that bypasses the drilling
rig’s top drive assembly.
Competition. Smith Services’ major competitors in the drilling, remedial, re-entry and
fishing services markets are Weatherford International, Inc. (“Weatherford”), Baker Oil Tools (a
division of Baker Hughes) and numerous small local
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companies. The main competitors in the liner hanger and packer markets are Baker Oil Tools, Weatherford and TIW Corporation. The main
competitors in the drilling and fishing jar market and the fishing product and service market are
Weatherford and National-Oilwell Varco. Competition in the drilling and completions sales, rental
and services market is primarily based on performance, quality, reliability, service, price and
response time and, in some cases, breadth of products.
Distribution Segment
Wilson
Products and Services. Wilson is a supply-chain management company which provides products
and services to the energy, refining, petrochemical, power generation and mining industries.
Wilson operates an extensive network of supply branches, service centers and sales offices through
which it markets pipe, valves and fittings as well as mill, safety and other maintenance products,
predominately in the United States and Canada. In addition, Wilson provides warehouse management,
vendor integration and various surplus and inventory management services. The majority of Wilson’s
operations are focused on North American distribution of maintenance, repair and operating supplies
and equipment with the remainder associated with line pipe and automated valve products (including
valve, actuator and control packages).
Approximately 70 percent of Wilson’s 2005 revenues were generated in the energy sector, which
includes exploration and production companies and companies with operations in the petroleum
industry’s pipeline sector. The remainder related to sales in the downstream and industrial
market, including refineries, petrochemical and power generation plants and other energy-focused
operations. Approximately 25 percent of Wilson’s 2005 revenues were reported in Canada,
attributable to the CE Franklin Ltd. operations, a publicly-traded distribution business in which
the Company owns the majority of the outstanding common stock.
Competition. Wilson’s competitors in its energy sector operations include National-Oilwell
Varco, Redman Pipe and Supply Company and a significant number of smaller, locally based
operations. Wilson’s competitors in the downstream and industrial market include Hagemeyer NV,
Ferguson Enterprises, Inc., McJunkin Corporation and W.W. Grainger, Inc. The distribution market
that Wilson participates in is highly competitive. Generally, competition involves numerous
factors, including price, experience, customer service and equipment availability.
Non-U.S. Operations
Sales to oil and gas exploration and production markets outside the United States are a key
strategic focus of Smith’s management. The Company markets its products and services through
subsidiaries, joint ventures and sales agents located in virtually all petroleum-producing areas of
the world, including Canada, Europe/Africa, the Middle East, Latin America and the Far East.
Approximately 55 percent, 55 percent and 56 percent of the Company’s revenues in 2005, 2004 and
2003, respectively, were derived from equipment or services sold or provided outside the United
States. The Company’s Distribution operations constitute a significant portion of the consolidated
revenue base and are concentrated in North America which serves to distort the geographic revenue
mix of the Company’s Oilfield segment operations. Excluding the impact of the Distribution
operations, approximately 65 percent of the Company’s revenues were generated in non-U.S. markets
for each of the 2005, 2004 and 2003 fiscal years.
Historically, drilling activity outside the United States has been less volatile than U.S.
based activity as the high cost exploration and production programs outside the United States are
generally undertaken by major oil companies, consortiums and national oil companies. These
entities operate under longer-term strategic priorities than do the independent drilling operators
that are more common in the U.S. market.
Sales and Distribution
Sales and service efforts are directed to end users in the exploration and production
industry, including major and independent oil companies, national oil companies and independent
drilling contractors. The Company’s products and services are primarily marketed through the
direct sales force of each business unit. In certain non-U.S. markets where direct sales efforts
are not practicable, the Company utilizes independent sales agents, distributors or joint ventures.
Smith maintains field service centers, which function as repair and maintenance facilities for
rental tools, operations for remedial and completion services and a base for the Company’s global
sales force, in all major oil and gas producing regions of the world. The location of these service centers near the Company’s customers is an important
factor in maintaining favorable customer relations.
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Manufacturing
The Company’s manufacturing operations, along with quality control support, are designed to
ensure that all products and services marketed by the Company will meet standards of performance
and reliability consistent with the Company’s reputation in the industry.
Management believes that it generally has sufficient internal manufacturing capacity to meet
anticipated demand for its products and services. During periods of peak demand, certain business
units utilize outside resources to provide additional manufacturing capacity.
Raw Materials
Through its company-owned mines in and outside the United States, M-I SWACO has the capability
to produce a large portion of its requirements for barite and bentonite, which are typically added
to engineered fluid systems. Barite reserves are mined in the United States, the United Kingdom
and Morocco. Bentonite is produced from ore deposits in the United States. Mining exploration
activities continue worldwide to locate and evaluate ore bodies to ensure deposits are readily
available for production when market conditions dictate. In addition to its own production, M-I
SWACO purchases the majority of its worldwide barite requirement from suppliers outside the United
States, mainly the People’s Republic of China, India and Morocco.
The Company purchases a variety of raw materials for its Smith Technologies and Smith Services
units, including alloy and stainless steel bars, tungsten carbide inserts and forgings. Generally,
the Company is not dependent on any single source of supply for any of its raw materials or
purchased components, and believes that numerous alternative supply sources are available for all
such materials. The Company does not expect any interruption in supply, but there can be no
assurance that there will be no price or supply issues over the long-term. The Company produces
polycrystalline diamond materials in Provo, Utah and Scurelle, Italy for utilization in various
Company products as well as direct customer sales.
Product Development, Engineering and Patents
The Company’s business units maintain product development and engineering departments whose
activities are focused on improving existing products and services and developing new technologies
to meet customer demands for improved drilling performance and environmental-based solutions for
drilling and completion operations. The Company’s primary research facilities are located in
Houston, Texas; Stavanger, Norway; Aberdeen, Scotland; and Florence, Kentucky.
The Company also maintains a drill bit database which records the performance of drill bits
over the last 20 years, including those manufactured by competitors. This database gives the
Company the ability to monitor, among other things, drill bit failures and performance improvements
related to product development. The Company believes this proprietary database gives it a
competitive advantage in the drill bit business.
The Company has historically invested significant resources in research and engineering in
order to provide customers with broader product lines and technologically-advanced products and
services. The Company’s expenditures for research and engineering activities are attributable to
the Company’s Oilfield Products and Services segment and totaled $73.6 million in 2005, $67.2
million in 2004 and $55.6 million in 2003. In 2005, research and engineering expenditures
approximated 1.8 percent of the Company’s Oilfield Products and Services segment revenues.
Although the Company has over 2,900 issued and pending patents and regards its patents and
patent applications as important in the operation of its business, it does not believe that any
significant portion of its business is materially dependent upon any single patent.
Employees
At December 31, 2005, the Company had 14,697 full-time employees throughout the world. Most
of the Company’s employees in the United States are not covered by collective bargaining agreements
except in certain U.S. mining operations of M-I SWACO and several distribution locations of Wilson.
The Company considers its labor relations to be satisfactory.
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Officers of the Registrant
The names and ages of all officers of the Company, all positions and offices with the Company
presently held by each person named and their business experience are stated below. Positions,
unless otherwise specified, are with the Company.
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| Name, Age and Positions |
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Principal Current Occupation and Other Significant Positions Held |
Doug Rock (59)
Chairman of the Board, Chief
Executive Officer, President
and Chief Operating Officer
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Chairman of
the Board since
February 1991, elected Chief
Executive Officer in March
1989 and served as President
and Chief Operating Officer
since December 1987. Held
various positions since
joining the Company in June
1974, served as President of
the Company’s Drilco Division
beginning April 1982 and was
named President of the
Company’s Smith Tool Division
in July 1985. |
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Loren K. Carroll (62)
Executive Vice President of
the Company, President and
Chief Executive Officer of
M-I SWACO
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President and Chief Executive
Officer of M-I SWACO since
March 1994, Executive Vice
President since October 1992
and member of the Board of
Directors since November
1987. Joined Company in
December 1984 as Vice
President and Chief Financial
Officer and served in that
capacity until March 1989.
Rejoined the Company in
October 1992 as Executive
Vice President and Chief
Financial Officer. |
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Richard E. Chandler, Jr. (49)
Senior Vice President, General
Counsel and Secretary
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Senior Vice President and
Secretary since January 2006
and served as General Counsel
since August 2005. Joined
predecessor to M-I SWACO in
December 1986 as Vice
President, General Counsel
and Secretary. Named Senior
Vice President –
Administration, General
Counsel and Secretary of M-I
SWACO in January 2004. |
|
|
|
Margaret K. Dorman (42)
Senior Vice President, Chief
Financial Officer and Treasurer
|
|
Senior Vice President, Chief
Financial Officer and
Treasurer since June 1999.
Joined Company as Director of
Financial Reporting in
December 1995 and named Vice
President, Controller and
Assistant Treasurer in
February 1998. |
|
|
|
Bryan L. Dudman (49)
President, Smith Services
|
|
President, Smith Services
since January 2006. Held
various positions since
joining the Company in
January 1979. Named Senior
Vice President World Wide
Operations of the Company’s
Smith Tool Division in March
1993 and Senior Vice
President Western Hemisphere
Operations of M-I SWACO in
May 1994. |
|
|
|
John J. Kennedy (53)
President and Chief Executive
Officer, Wilson
|
|
President and Chief Executive
Officer, Wilson since June
1999. Joined Company as
Treasury Manager in November
1986, named Treasury Director
- International Operations in
November 1987 and served as
Treasurer beginning May 1991.
Elected Vice President,
Chief Accounting Officer and
Treasurer in March 1994 and
named Senior Vice President,
Chief Financial Officer and
Treasurer in April 1997. |
|
|
|
Michael D. Pearce (58)
President, Smith Technologies
|
|
President, Smith Technologies
since May 2005. Joined
Company as Vice President
Sales of the Company’s
GeoDiamond Division in April
1995 and named Vice President
Sales of Smith Technologies
in August 1998. |
|
|
|
Neal S. Sutton (60)
Senior Vice President — Law
|
|
Senior Vice President – Law
since January 2006. Joined
Company as Vice President,
Secretary and General Counsel
in January 1991, named Vice
President – Administration in
March 1992 and Senior Vice
President – Administration,
General Counsel and Secretary
in December 1994. |
|
|
|
Malcolm W. Anderson (58)
Vice President,
Human Resources
|
|
Vice President, Human
Resources since May 2004.
Vice President Human
Resources of Hewlett Packard
from January 2001 to April
2004. Vice President Human
Resources of Weatherford
International Ltd. from April
1996 to December 2000. |
|
|
|
Peter J. Pintar (47)
Vice President, Corporate
Strategy and Development
|
|
Vice President Corporate
Strategy and Development
since September 2005. Held
various positions at DTE
Energy Company between
October 1997 and August 2005,
including Director –
Corporate Development,
Managing Director – Venture
Capital Investments, and
Director – Investor
Relations. |
|
|
|
David R. Cobb (40)
Vice President and Controller
|
|
Vice President and Controller
since July 2002. Joined
Company as Assistant
Controller in October 2001.
Assistant Treasurer, Kent
Electronics Corporation from
April 1997 to September 2001. |
|
|
|
Geri D. Wilde (55)
Vice President, Taxes and
Assistant Treasurer
|
|
Vice President, Taxes since
February 1998. Joined
Company as Manager of Taxes
and Payroll of M-I SWACO in
December 1986 and named
Director of Taxes and
Assistant Treasurer in April
1997. |
All officers of the Company are elected annually by the Board of Directors. They hold office until
their successors are elected and qualified. There are no family relationships between the officers
of the Company.
8
Item 1A. Risk Factors
This document contains forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended, concerning, among other things, our outlook, financial
projections and business strategies. These forward-looking statements are identified by their use
of terms such as “anticipate,” “believe,” “could,” “estimate,” “expect,”, “expected”, “project” and
similar terms. These statements are based on certain assumptions and analyses that we believe are
reasonable under the circumstances. However, our assumptions could prove to be incorrect.
Furthermore, such statements are subject to risks and uncertainties, many of which are beyond the
control of the Company, that could cause actual results to differ materially from expected results.
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,
future events or otherwise.
With this in mind, you should consider the risks discussed elsewhere in this report and other
documents we file with the SEC from time to time and the following important factors that could
cause our actual results to differ materially from those expressed in any forward-looking statement
made by us or on our behalf.
We are dependent on the level of oil and natural gas exploration and development activities.
Demand for our products and services is dependent upon the level of oil and natural gas
exploration and development activities. The level of worldwide oil and natural gas development
activities is primarily influenced by the price of oil and natural gas, as well as price
expectations. In addition to oil and natural gas prices, the following factors impact exploration
and development activity and may lead to significant changes in worldwide activity levels:
| |
• |
|
Overall level of global economic growth and activity; |
| |
| |
• |
|
Actual and perceived changes in the supply and demand for oil and natural gas; |
| |
| |
• |
|
Political stability and policies of oil-producing countries; |
| |
| |
• |
|
Finding and development costs of operators; |
| |
| |
• |
|
Decline and depletion rates for oil and natural gas wells; and |
| |
| |
• |
|
Seasonal weather conditions that temporarily curtail drilling operations. |
Changes in any of these factors could adversely impact our financial condition or results of
operations.
There are certain risks associated with conducting business in markets outside of North America.
We are a multinational oilfield service company and generate the majority of our Oilfield
segment revenues in markets outside of North America. Changes in conditions within certain
countries that have historically experienced a high degree of political and/or economic instability
could adversely impact our financial condition or results of operations. Additional risks inherent
in our non-North American business activities include:
| |
• |
|
Changes in political and economic conditions in the countries in which we
operate, including civil uprisings, riots and terrorist acts; |
| |
| |
• |
|
Unexpected changes in regulatory requirements; |
| |
| |
• |
|
Fluctuations in currency exchange rates and the value of the U.S. dollar; |
| |
| |
• |
|
Restrictions on repatriation of earnings or expropriation of property without fair compensation; |
| |
| |
• |
|
Governmental actions that result in the deprivation of contract rights; and |
| |
| |
• |
|
Governmental sanctions. |
We operate in a highly technical and competitive environment.
We operate in a highly-competitive business environment. Accordingly, demand for our products
and services is largely dependent on our ability to provide leading-edge, technology-based
solutions that reduce the operator’s overall cost of developing energy assets. If competitive or
other market conditions impact our ability to continue providing superior-performing product
offerings, our financial condition or results of operations could be adversely impacted.
Our businesses are subject to a variety of governmental regulations.
We are exposed to a variety of federal, state, local and international laws and regulations
relating to environmental, health and safety, export control, currency exchange, labor and
employment and taxation matters. These laws and regulations are complex, change frequently and
have tended to become more stringent over time. In the event the scope of these laws and
regulations expand in the future, the incremental cost of compliance could adversely impact our
financial condition or results of operations.
9
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
The principal facilities and properties utilized by the Company at December 31, 2005 are shown
in the table below. Generally, the facilities and properties are owned by the Company.
| |
|
|
|
|
|
|
|
|
|
|
| |
|
Principal Products Processed |
|
Land |
|
Approx. Bldg. |
| Location |
|
or Manufactured |
|
(Acres) |
|
Space(sq.ft.) |
| Oilfield Products and Services Segment: |
|
|
|
|
|
|
|
|
Houston, Texas
|
|
Tubulars, surface and downhole tools, remedial
products, liner hangers, diamond drill bits,
turbodrills, drilling and fishing jars and fishing
tool equipment
|
|
|
88 |
|
|
|
850,000 |
|
Houston, Texas
|
|
M-I SWACO corporate headquarters and research center
|
|
|
18 |
|
|
|
223,000 |
|
Ponca City, Oklahoma
|
|
Three-cone drill bits
|
|
|
15 |
|
|
|
207,000 |
|
Florence, Kentucky
|
|
Separator units, mill units, parts, screens and motors
|
|
|
15 |
|
|
|
145,000 |
|
Aberdeen, Scotland
|
|
Downhole tools and remedial products
|
|
|
10 |
|
|
|
132,000 |
|
Greybull, Wyoming
|
|
Bentonite mine and processing
|
|
|
8,394 |
|
|
|
110,000 |
|
Tulsa, Oklahoma
|
|
Oilfield and industrial screening products
|
|
|
7 |
|
|
|
95,000 |
|
Saline di Volterra, Italy
|
|
Three-cone drill bits
|
|
|
11 |
|
|
|
92,000 |
|
Edinburgh, Scotland
|
|
Wire cloth and oilfield screening products
|
|
|
3 |
|
|
|
91,400 |
|
Aberdeen, Scotland
|
|
Downhole tools
|
|
|
10 |
|
|
|
91,000 |
|
Karmoy, Norway
|
|
Barite and bentonite processing
|
|
|
5 |
|
|
|
51,000 |
|
Greystone, Nevada
|
|
Barite mine and processing
|
|
|
268 |
|
|
|
50,000 |
|
Battle Mountain, Nevada
|
|
Barite processing
|
|
|
23 |
|
|
|
43,000 |
|
Provo, Utah
|
|
Synthetic diamond materials
|
|
|
4 |
|
|
|
43,000 |
|
Nisku, Canada
|
|
Tubulars and drill collars
|
|
|
10 |
|
|
|
42,000 |
|
Zelmou, Morocco
|
|
Barite mine
|
|
|
3,954 |
|
|
|
41,000 |
|
Zavalla, Texas
|
|
Drilling fluid chemical products
|
|
|
33 |
|
|
|
36,000 |
|
Nivellas, Belgium
|
|
Separator units, mill units, parts, screens and motors
|
|
|
5 |
|
|
|
32,000 |
|
Scurelle, Italy
|
|
Diamond drill bits and synthetic diamond materials
|
|
|
4 |
|
|
|
31,000 |
|
Amelia, Louisiana
|
|
Barite processing
|
|
|
26 |
|
|
|
25,000 |
|
Port Fouchon, Louisiana
|
|
Drilling fluid storage, processing and distribution
|
|
|
11 |
|
|
|
24,600 |
|
Spruce Grove, Canada
|
|
Drilling fluid processing
|
|
|
3 |
|
|
|
24,000 |
|
Berra, Italy
|
|
Solids control equipment
|
|
|
2 |
|
|
|
24,000 |
|
Salzweld, Germany
|
|
Drilling fluid processing
|
|
|
2 |
|
|
|
23,000 |
|
Galveston, Texas
|
|
Barite processing
|
|
|
6 |
|
|
|
21,000 |
|
Macon, Georgia
|
|
Separator units and screens
|
|
|
1 |
|
|
|
18,000 |
|
Aberdeen, Scotland
|
|
Barite and bentonite processing
|
|
|
2 |
|
|
|
12,000 |
|
Foss/Aberfeldy, Scotland
|
|
Barite mine and processing
|
|
|
102 |
|
|
|
10,000 |
|
Grand Prairie, Canada
|
|
Fishing and remedial services
|
|
|
2 |
|
|
|
9,000 |
|
Mountain Springs, Nevada
|
|
Barite mine
|
|
|
900 |
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
Distribution Segment: |
|
|
|
|
|
|
|
|
|
|
Houston, Texas
|
|
Pipe, valves and fittings
|
|
|
11 |
|
|
|
198,000 |
|
Trainer, Pennsylvania
|
|
Pipe, valves and fittings
|
|
|
3 |
|
|
|
23,000 |
|
Tampa, Florida
|
|
Pipe, valves and fittings
|
|
|
4 |
|
|
|
16,000 |
|
The Company considers its mines and manufacturing and processing facilities to be in good
condition and adequately maintained. The Company also believes its facilities are suitable for
their present and intended purposes and are generally adequate for the Company’s current and
anticipated level of operations.
The Company’s Corporate headquarters is located in a leased office building in Houston, Texas.
The Company leases various other administrative and sales offices, as well as warehouses and
service centers in the United States and other countries in which it conducts business. The
Company believes that it will be able to renew and extend its property leases on terms satisfactory
to the Company or, if necessary, locate substitute facilities on acceptable terms.
10
Item 3. Legal Proceedings
Information relating to various commitments and contingencies, including legal proceedings, is
described in Note 2 and Note 16 of the Consolidated Financial Statements included elsewhere in this
report on Form 10-K and is incorporated herein by reference.
Item 4. Submission of Matters to a Vote of Security Holders
None.
PART II
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
The common stock of the Company is traded on the New York Stock Exchange and the Pacific Stock
Exchange. The following are the high and low sale prices for the Company’s common stock as
reported on the New York Stock Exchange Composite Tape for the periods indicated, and adjusted for
the two-for-one stock split effective August 24, 2005.
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2004 Common Stock |
|
2005 Common Stock |
| |
|
Q1 |
|
Q2 |
|
Q3 |
|
Q4 |
|
Q1 |
|
Q2 |
|
Q3 |
|
Q4 |
| |
|
|
|
|
High |
|
$ |
27.36 |
|
|
$ |
28.88 |
|
|
$ |
30.71 |
|
|
$ |
31.25 |
|
|
$ |
32.77 |
|
|
$ |
32.06 |
|
|
$ |
35.23 |
|
|
$ |
39.59 |
|
Low |
|
$ |
20.14 |
|
|
$ |
24.03 |
|
|
$ |
26.09 |
|
|
$ |
26.99 |
|
|
$ |
25.96 |
|
|
$ |
27.92 |
|
|
$ |
31.91 |
|
|
$ |
29.61 |
|
On March 6, 2006, the Company had 1,965 common stock holders of record and the last reported
closing price on the New York Stock Exchange Composite Tape was $38.12.
Stock Repurchases
In October 2005, the Company completed a previously announced share repurchase program. On
October 20, 2005, the Board of Directors approved a new repurchase program that allows for the
purchase of up to 20 million shares of the Company’s common stock, subject to regulatory issues,
market considerations and other relevant factors. During the fourth quarter of 2005, the Company
repurchased 0.3 million shares of common stock under the programs at an aggregate cost of $9.6
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.
The following table summarizes the Company’s repurchase activity for the three months ended
December 31, 2005:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
|
|
|
|
|
Total Number of |
|
|
|
|
| |
|
|
Total Number |
|
|
|
Average |
|
|
|
Shares Purchased as |
|
|
|
Number of Shares that |
|
| |
|
|
of Shares |
|
|
|
Price Paid |
|
|
|
Part of Publicly |
|
|
|
May Yet Be Purchased |
|
| Period |
|
|
Purchased |
|
|
|
per Share |
|
|
|
Announced Programs |
|
|
|
Under the Programs |
|
October 1 – 31 |
|
|
225,000 |
|
|
|
$30.25 |
|
|
|
225,000 |
|
|
|
19,997,200 |
|
November 1 – 30 |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
19,997,200 |
|
December 1 – 31 |
|
|
76,000 |
|
|
|
$36.64 |
|
|
|
76,000 |
|
|
|
19,921,200 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4th Quarter 2005 |
|
|
301,000 |
|
|
|
$31.86 |
|
|
|
301,000 |
|
|
|
19,921,200 |
|
Dividend Program
On February 2, 2005, the Company’s Board of Directors approved a cash dividend program for
stockholders and declared a quarterly cash dividend of $0.06 per
share, after adjusting for the
August 2005 stock dividend. The Board of Directors declared dividends of $48.4 million and
distributed cash dividends of $36.4 million during 2005. On March 1, 2006, the Company’s Board of
Directors approved an increase in the quarterly cash dividend to $0.08 per share, beginning with
the distribution payable April 14, 2006 to stockholders of record on March 15, 2006. 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 cash flow from operations, the level of its capital
expenditures, compliance with certain debt covenants, its future business prospects and other
factors that the Board of Directors deems relevant.
11
Item 6. Selected Financial Data
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
For the Years Ended December 31, |
| |
|
2005 |
|
2004(a) |
|
2003 |
|
2002 |
|
2001 |
| |
|
|
|
|
|
(In thousands, except per share data) |
|
|
|
|
Statements of Operations Data: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
5,579,003 |
|
|
$ |
4,419,015 |
|
|
$ |
3,594,828 |
|
|
$ |
3,170,080 |
|
|
$ |
3,551,209 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
1,685,138 |
|
|
|
1,351,939 |
|
|
|
1,075,931 |
|
|
|
918,302 |
|
|
|
1,045,804 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
|
670,561 |
|
|
|
438,764 |
|
|
|
328,747 |
|
|
|
256,148 |
|
|
|
371,510 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before cumulative
effect of change in
accounting principle |
|
|
302,305 |
|
|
|
182,451 |
|
|
|
124,634 |
|
|
|
93,189 |
|
|
|
152,145 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share before
cumulative effect of change
in accounting principle –
diluted basis(b) |
|
|
1.48 |
|
|
|
0.89 |
|
|
|
0.62 |
|
|
|
0.47 |
|
|
|
0.76 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance Sheet Data: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
4,059,914 |
|
|
$ |
3,506,778 |
|
|
$ |
3,097,047 |
|
|
$ |
2,749,545 |
|
|
$ |
2,735,828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term debt |
|
|
610,857 |
|
|
|
387,798 |
|
|
|
488,548 |
|
|
|
441,967 |
|
|
|
538,842 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders’ equity |
|
|
1,578,505 |
|
|
|
1,400,811 |
|
|
|
1,235,776 |
|
|
|
1,063,535 |
|
|
|
949,159 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash dividends declared per
common share(c) |
|
|
0.24 |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
The Selected Financial Data above should be read together with the Notes to Consolidated
Financial Statements and Management’s Discussion and Analysis of Financial Condition and Results of
Operations included elsewhere in this Form 10-K in order to understand factors, such as changes
in the method of accounting for goodwill, business combinations completed during 2005, 2004 and
2003, and unusual items, which may affect the comparability of the Selected Financial Data.
|
|
| (a) |
|
In 2004, the Company recognized a $31.4 million, or $0.10 per share, patent
litigation-related charge. |
| (b) |
|
All fiscal years prior to 2005 have been restated for the impact of a two-for-one stock
dividend distributed on August 24, 2005. |
| (c) |
|
On February 2, 2005, the Company’s Board of Directors approved a cash dividend program for
stockholders and declared a quarterly cash dividend of $0.06 per
share, after adjusting for the August 2005 stock dividend. The Board of Directors declared dividends of $48.4 million and
distributed cash dividends of $36.4 million during 2005. On March 1, 2006, the Company’s
Board of Directors approved an increase in the quarterly cash dividend to $0.08 per share,
beginning with the distribution payable April 14, 2006 to stockholders of record on March 15,
2006. |
12
Item 7. 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 Financial Statements
of the Company and the related notes thereto included elsewhere in this Form 10-K. This discussion
includes forward-looking statements that are subject to risks and uncertainties. Actual results
may differ materially from the statements we make in this section due to a number of factors that
are discussed beginning on page 9.
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 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, 57 percent of the Company’s 2005 revenues were
generated in markets outside of North America.
Business Outlook
The Company’s business is highly dependent on the general economic environment in the United
States and other major world economies, which impact energy consumption and the resulting demand
for our products and services. In 2005, the average worldwide rig count grew 15 percent over the
prior year period, as higher commodity prices influenced increased natural-gas focused drilling
activity. The Company expects to see modest growth in exploration and production spending in 2006,
supported by commodity prices, which remain economically viable despite recent declines from the record high
prices set in late 2005. Although there are a number of factors which could influence forecasted
exploration and production spending, a significant decline in commodity prices, particularly
natural gas, or deterioration in the global economic environment could adversely impact worldwide
drilling activity and demand for our products and services.
13
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.
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| |
|
For the Years Ended December 31, |
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
| Financial Data: (dollars in thousands) |
|
Amount |
|
|
% |
|
|
Amount |
|
|
% |
|
|
Amount |
|
|
% |
|
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
M-I SWACO |
|
$ |
2,682,511 |
|
|
|
48 |
|
|
$ |
2,231,884 |
|
|
|
50 |
|
|
$ |
1,865,851 |
|
|
|
52 |
|
Smith Technologies |
|
|
601,821 |
|
|
|
11 |
|
|
|
511,410 |
|
|
|
12 |
|
|
|
403,261 |
|
|
|
11 |
|
Smith Services |
|
|
694,667 |
|
|
|
12 |
|
|
|
493,045 |
|
|
|
11 |
|
|
|
409,162 |
|
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
|
3,978,999 |
|
|
|
71 |
|
|
|
3,236,339 |
|
|
|
73 |
|
|
|
2,678,274 |
|
|
|
74 |
|
Wilson |
|
|
1,600,004 |
|
|
|
29 |
|
|
|
1,182,676 |
|
|
|
27 |
|
|
|
916,554 |
|
|
|
26 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
5,579,003 |
|
|
|
100 |
|
|
$ |
4,419,015 |
|
|
|
100 |
|
|
$ |
3,594,828 |
|
|
|
100 |
|
|
|
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|
|
|
|
|
|
|
|
|
Geographic Revenues: |
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States: |
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
1,393,564 |
|
|
|
25 |
|
|
$ |
1,128,294 |
|
|
|
26 |
|
|
$ |
925,148 |
|
|
|
26 |
|
Distribution |
|
|
1,127,142 |
|
|
|
20 |
|
|
|
854,173 |
|
|
|
19 |
|
|
|
667,095 |
|
|
|
18 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total United States |
|
|
2,520,706 |
|
|
|
45 |
|
|
|
1,982,467 |
|
|
|
45 |
|
|
|
1,592,243 |
|
|
|
44 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Canada: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
|
313,912 |
|
|
|
6 |
|
|
|
225,629 |
|
|
|
5 |
|
|
|
171,653 |
|
|
|
5 |
|
Distribution |
|
|
399,653 |
|
|
|
7 |
|
|
|
261,923 |
|
|
|
6 |
|
|
|
191,221 |
|
|
|
5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Canada |
|
|
713,565 |
|
|
|
13 |
|
|
|
487,552 |
|
|
|
11 |
|
|
|
362,874 |
|
|
|
10 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-North America: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
|
2,271,523 |
|
|
|
41 |
|
|
|
1,882,416 |
|
|
|
43 |
|
|
|
1,581,483 |
|
|
|
44 |
|
Distribution |
|
|
73,209 |
|
|
|
1 |
|
|
|
66,580 |
|
|
|
1 |
|
|
|
58,228 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Non-North America |
|
|
2,344,732 |
|
|
|
42 |
|
|
|
1,948,996 |
|
|
|
44 |
|
|
|
1,639,711 |
|
|
|
46 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenue |
|
$ |
5,579,003 |
|
|
|
100 |
|
|
$ |
4,419,015 |
|
|
|
100 |
|
|
$ |
3,594,828 |
|
|
|
100 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
625,384 |
|
|
|
16 |
|
|
$ |
423,648 |
|
|
|
13 |
|
|
$ |
343,486 |
|
|
|
13 |
|
Distribution |
|
|
64,714 |
|
|
|
4 |
|
|
|
26,513 |
|
|
|
2 |
|
|
|
(7,897 |
) |
|
|
— |
|
General Corporate |
|
|
(19,537 |
) |
|
|
* |
|
|
|
(11,397 |
) |
|
|
* |
|
|
|
(6,842 |
) |
|
|
* |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
670,561 |
|
|
|
12 |
|
|
$ |
438,764 |
|
|
|
10 |
|
|
$ |
328,747 |
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Market Data: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Worldwide Rig Count: (1) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
|
1,666 |
|
|
|
50 |
|
|
|
1,417 |
|
|
|
49 |
|
|
|
1,216 |
|
|
|
47 |
|
Canada |
|
|
408 |
|
|
|
12 |
|
|
|
348 |
|
|
|
12 |
|
|
|
339 |
|
|
|
13 |
|
Non-North America |
|
|
1,271 |
|
|
|
38 |
|
|
|
1,145 |
|
|
|
39 |
|
|
|
1,050 |
|
|
|
40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
3,345 |
|
|
|
100 |
|
|
|
2,910 |
|
|
|
100 |
|
|
|
2,605 |
|
|
|
100 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Onshore |
|
|
2,833 |
|
|
|
85 |
|
|
|
2,443 |
|
|
|
84 |
|
|
|
2,143 |
|
|
|
82 |
|
Offshore |
|
|
512 |
|
|
|
15 |
|
|
|
467 |
|
|
|
16 |
|
|
|
462 |
|
|
|
18 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
3,345 |
|
|
|
100 |
|
|
|
2,910 |
|
|
|
100 |
|
|
|
2,605 |
|
|
|
100 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Commodity Prices: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Crude Oil ($/Bbl)(2) |
|
$ |
56.59 |
|
|
|
|
|
|
$ |
41.51 |
|
|
|
|
|
|
$ |
31.06 |
|
|
|
|
|
Natural Gas ($/mcf)(3) |
|
|
8.89 |
|
|
|
|
|
|
|
5.90 |
|
|
|
|
|
|
|
5.49 |
|
|
|
|
|
|
|
|
| (1) |
|
Source: M-I SWACO. |
| |
| (2) |
|
Average daily West Texas Intermediate (“WTI”) spot closing prices. |
| |
| (3) |
|
Average daily Henry Hub, Louisiana spot closing prices. |
| |
| * |
|
not meaningful |
14
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 exploration and production 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 nine percent of the revenue base. U.S. offshore drilling
programs, which account for approximately three 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. For the year ended December 31, 2005, M-I SWACO reported revenues of $2.7 billion, an
increase of 20 percent over the prior year period. Over 60 percent of the business growth was
generated in the Eastern Hemisphere influenced by an 11 percent increase in corresponding activity
levels and the impact of new contract awards. Increased exploration and production spending in the
North American market, driven by the significant increase in the number of land-based drilling
programs and, to a lesser extent, the impact of price increases initiated throughout 2005 also
contributed to the year-over-year revenue improvement. M-I SWACO’s revenues totaled $2.2 billion
for the year ended December 31, 2004. The majority of the revenue increase was generated in
markets outside of North America, where revenues grew 21 percent largely due to the underlying
activity level increase of nine percent. Although increased investment by exploration and
production companies in Latin America and the Middle East contributed to the improvement, new
contract awards and increased customer demand for waste management product offerings in several
major Europe/Africa markets also had a favorable impact. Approximately one-third of the
year-over-year revenue growth was reported in North America, as increased customer spending related
to land-based projects more than offset the impact of reduced drilling activity in the
higher-margin U.S. offshore market.
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 generally has the highest North American
revenue exposure of the Oilfield segment units. For the year ended December 31, 2005, Smith
Technologies reported revenues of $601.8 million, an increase of 18 percent over the prior year.
The year-over-year revenue growth resulted from increased unit sales and rentals of diamond drill
bits, as technological advancements in fixed cutter drill bit manufacturing and design has
influenced a shift from roller-cone toward diamond drill bit product offerings. To a lesser
extent, the impact of higher unit pricing and continued demand for turbine products contributed to
the year-over-year revenue improvement. Smith Technologies reported revenues of $511.4 million for
the year ended December 31, 2004, a 27 percent increase over the prior year level. Approximately
three-quarters of the revenue growth was reported in North America, as increased activity levels
impacted demand for diamond bit rentals. Additionally, increased market penetration resulting from
new product designs and, to a lesser extent, improved product pricing also contributed to the
revenue variance.
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. Smith Services’ core business volumes
are more 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 year ended December 31, 2005, Smith Services reported revenues of
$694.7 million, a 41 percent increase from the prior year. Excluding the effect of acquired
operations, revenues increased 34 percent influenced by higher worldwide exploration and production
spending levels. The majority of the base revenue growth was generated in North America, as
increased activity levels impacted tubular product sales, which were twice the level reported in
the prior year. Approximately one-third of the year-over-year base revenue growth was reported in
markets outside of North America, driven by strong demand for remedial product and service lines in
the Middle East and North Sea markets. Smith Services reported revenues of $493.0 million for the
year ended December 31, 2004, a 21 percent increase over the amount reported in 2003.
Approximately three-quarters of the revenue improvement was generated in the North American market, influenced by higher activity levels, increased demand for
tubular products and, to a lesser extent, incremental revenues from acquired operations.
15
Operating Income
Operating income for the Oilfield Products and Services segment was $625.4 million, or 15.7
percent of revenues, for the year ended December 31, 2005. The year-over-year comparison was
impacted by litigation-related charges, including $5.6 million and $31.4 million in 2005 and 2004,
respectively. Excluding the impact of these charges, segment operating margins increased 1.8
percentage points above the prior year level. The year-over-year operating margin expansion
primarily reflects reduced operating expenses as a percentage of revenues associated with improved
fixed cost coverage in the sales and administrative functions. Gross margins improved slightly
reflecting the impact of increased fixed cost absorption in the segment’s manufacturing operations
and higher unit pricing, partially offset by a combination of an unfavorable shift in business mix
and rising commodity costs. Fiscal 2005 operating income increased $175.9 million over the prior
year, net of the litigation-related charges. The growth in operating income was attributable to
the impact of a 23 percent increase in business volumes on gross profit, partially offset by higher
variable-based operating expenses, including investment in personnel and infrastructure to support
the expanding business operations. For the year ended December 31, 2004, Oilfield operating income
was $423.6 million, or 13.1 percent of revenues. Excluding the impact of the litigation-related
charge recorded during 2004, segment operating margins improved 1.3 percentage points over the
prior year due to gross margin expansion and, to a lesser extent, reduced operating expenses as a
percentage of revenues. The gross margin improvement largely reflects increased fixed cost
absorption in the Company’s manufacturing operations and, to a lesser extent, the impact of price
increases introduced in the drilling fluid and drill bit operations. Fiscal 2004 operating income,
net of the litigation charge, increased $111.6 million over the 2003 level attributable to the
impact of higher revenue volumes on 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 2005 revenues generated
in those markets. Moreover, approximately 30 percent of Wilson’s revenues relate to sales to the
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. For the year ended December 31,
2005, Wilson reported revenues of $1.6 billion, 35 percent above the prior year. Approximately
three-quarters of the revenue growth was generated in the upstream energy operations reflecting
higher spending by exploration and production companies associated with increased North American
drilling and completion activity, the impact of new contract awards and strong demand for tubular
products. Industrial and downstream sales volumes grew 17 percent, influenced by increased
spending levels for line pipe and maintenance and repair projects primarily in the engineering and
construction and petrochemical customer base. Wilson reported revenues totaling $1.2 billion for
the year ended December 31, 2004, an increase of 29 percent from the 2003 fiscal year. Two-thirds
of the revenue improvement was reported in Wilson’s upstream energy segment, attributable to higher
North American activity levels, increased demand for tubular products and new contract awards.
Operating Income
Operating income for the Distribution segment was $64.7 million, or four percent of revenues,
for the year ended December 31, 2005. Distribution operating results increased $38.2 million over
the amount reported in 2004, equating to incremental operating income of nine percent of revenues.
Incremental operating income was driven by the energy sector operations reflecting increased
coverage of fixed sales and administrative costs. The lower expense ratio more than offset
deterioration in gross profit margins associated with increased tubular product costs and a higher
mix of project and export orders, which typically generate lower comparable margins. For the year
ended December 31, 2004, operating income for the Distribution segment was $26.5 million, or 2.2 percent of revenues. Excluding a charge recorded in the prior year, segment
operating income increased $29.8 million above the amount reported in 2003, equating to incremental
operating income of 11 percent of revenues. Incremental operating income was influenced by
year-over-year improvement reported in both the energy and industrial sector operations
attributable to increased coverage of fixed sales and administrative costs and, to a lesser extent,
the impact of favorable pricing driven by a competitive market for tubular products.
16
Consolidated Discussion
For the periods indicated, the following table summarizes the consolidated results of
operations of the Company and presents these results as a percentage of total revenues (dollars in
thousands):
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
For the Years Ended December 31, |
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
| |
|
Amount |
|
|
% |
|
|
Amount |
|
|
% |
|
|
Amount |
|
|
% |
|
Revenues |
|
$ |
5,579,003 |
|
|
|
100 |
|
|
$ |
4,419,015 |
|
|
|
100 |
|
|
$ |
3,594,828 |
|
|
|
100 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
1,685,138 |
|
|
|
30 |
|
|
|
1,351,939 |
|
|
|
31 |
|
|
|
1,075,931 |
|
|
|
30 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses |
|
|
1,014,577 |
|
|
|
18 |
|
|
|
913,175 |
|
|
|
21 |
|
|
|
747,184 |
|
|
|
21 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
|
670,561 |
|
|
|
12 |
|
|
|
438,764 |
|
|
|
10 |
|
|
|
328,747 |
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
44,446 |
|
|
|
1 |
|
|
|
38,762 |
|
|
|
1 |
|
|
|
40,964 |
|
|
|
1 |
|
Interest income |
|
|
(1,692 |
) |
|
|
— |
|
|
|
(1,300 |
) |
|
|
— |
|
|
|
(1,973 |
) |
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes,
minority interests and cumulative
effect of change in accounting
principle |
|
|
627,807 |
|
|
|
11 |
|
|
|
401,302 |
|
|
|
9 |
|
|
|
289,756 |
|
|
|
8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax provision |
|
|
202,743 |
|
|
|
4 |
|
|
|
129,721 |
|
|
|
3 |
|
|
|
93,334 |
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minority interests |
|
|
122,759 |
|
|
|
2 |
|
|
|
89,130 |
|
|
|
2 |
|
|
|
71,788 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before cumulative effect
of change in accounting
principle |
|
|
302,305 |
|
|
|
5 |
|
|
|
182,451 |
|
|
|
4 |
|
|
|
124,634 |
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of change in
accounting principle, net of tax
and minority interests |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(1,154 |
) |
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
302,305 |
|
|
|
5 |
|
|
$ |
182,451 |
|
|
|
4 |
|
|
$ |
123,480 |
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 versus 2004
Consolidated revenues increased to $5.6 billion for the year ended December 31, 2005, 26
percent above the prior year period. The majority of the year-over-year dollar variance was
reported in the Oilfield segment primarily attributable to higher worldwide drilling activity. On
a geographic basis, two-thirds of the revenue improvement was generated in North America impacted
by a combination of increased land-based drilling activity, strong demand for tubular products and
improved pricing. Increased business volumes in markets outside North America also contributed to
the year-over-year revenue variance, reflecting higher customer spending levels and the impact of
new contract awards.
Gross profit totaled $1.7 billion, or 30 percent of revenues, less than one percentage point
below the gross profit margins generated in the comparable prior year period. The modest decline
in gross profit margins reflects an increased proportion of Distribution segment sales, which
historically generate lower margins than the Oilfield operations. To a lesser extent, gross profit
margin deterioration reported in the Distribution segment also contributed to the reduction in
consolidated gross profit margins. On an absolute dollar basis, gross profit was $333.2 million
above the prior year period primarily reflecting the increased sales volumes in the Oilfield
operations.
Operating expenses, consisting of selling, general and administrative expenses, increased
$101.4 million from the amount reported in the prior year. The year-over-year operating expense
variance was impacted by litigation-related charges, including $5.6 million recorded in 2005 and $28.8 million recognized during 2004, related
to the settlement, legal fees and other costs directly associated with a patent infringement case.
Excluding the litigation-related charges, operating expenses
17
increased $124.6 million on an
absolute dollar basis, but decreased two percentage points from the prior year period, as a
percentage of revenues. The majority of the absolute dollar increase was attributable to variable
costs directly associated with the improved business volumes, including increased investment in
personnel and infrastructure. To a lesser extent, increased employee profit-sharing amounts
directly attributable to the reported profitability levels and stock-based compensation expense
associated with restricted stock awards also contributed to the year-over-year operating expense
growth.
Net interest expense, which represents interest expense less interest income, totaled $42.8
million in 2005. Net interest expense increased $5.3 million from the prior year reflecting higher
average debt levels between the periods and, to a lesser extent, an increase in variable interest
rates.
The effective tax rate approximated 32 percent, which was comparable to the level reported in
the prior year, but below 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.
Minority interests reflect the portion of the results of majority-owned operations which are
applicable to the minority interest partners. Minority interests totaled $122.8 million in 2005, a
$33.6 million increase from the prior year. The year-over-year increase primarily reflects the
higher profitability of the M-I SWACO joint venture and, to a lesser extent, improved earnings
reported by CE Franklin Ltd.
2004 versus 2003
Consolidated revenues increased to $4.4 billion for the year ended December 31, 2004, 23
percent above the prior year period. The majority of the year-over-year dollar variance was
reported in the Oilfield segment attributable to a combination of higher activity levels, increased
market penetration and, to a lesser extent, improved product pricing. On a geographic basis,
two-thirds of the revenue improvement was reported in the Western Hemisphere as the impact of
higher land-based drilling more than offset revenue reductions associated with activity declines
experienced in the U.S. offshore market. Improved business volumes in the Eastern Hemisphere
market also contributed to the year-over-year revenue variance, reflecting the higher number of
exploration and production projects and the impact of new contract awards.
Gross profit totaled $1.4 billion, or 31 percent of revenues, one percentage point above the
gross profit margins generated in the comparable prior year period. Although the margin expansion
was largely driven by the impact of increased sales volumes on fixed manufacturing and service
infrastructure costs, a shift in the business mix toward higher-margin product offerings and
improved product pricing also had a favorable effect. On an absolute dollar basis, gross profit
was $276.0 million above the prior year period primarily reflecting the increased sales volumes in
the Oilfield operations.
Operating expenses, consisting of selling, general and administrative expenses, increased
$166.0 million from the amount reported in the prior year. The operating expense growth was
impacted by a $28.8 million litigation-related charge recognized during 2004 to reflect an
estimated loss provision, legal fees and other costs directly associated with a patent infringement
case. Excluding the charge, operating expenses, as a percentage of revenues, decreased one
percentage point from the prior year period. Improved fixed cost coverage in the sales and
administrative functions accounted for the majority of 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. To a lesser extent, increased employee profit-sharing amounts
directly attributable to the reported profitability levels, increased medical and casualty
insurance program costs and legal fees associated with defending patent infringement lawsuits also
contributed to the year-over-year operating expense growth.
Net interest expense, which represents interest expense less interest income, totaled $37.5
million in 2004. Net interest expense decreased $1.5 million from the prior year reflecting lower
average debt levels between the periods.
The effective tax rate approximated 32 percent, which was comparable to the level reported in
the prior year, but below 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.
18
Minority interests reflect the portion of the results of majority-owned operations which are
applicable to the minority interest partners. Minority interests totaled $89.1 million in 2004, a
$17.3 million increase from the prior year. The year-over-year increase primarily reflects the
higher profitability of the M-I SWACO joint venture and, to a lesser extent, improved earnings
reported by CE Franklin Ltd.
The cumulative effect of change in accounting principle included for 2003 represents the
impact of the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 143, “Accounting
for Asset Retirement Obligations.”
Liquidity and Capital Resources
General
At December 31, 2005, cash and cash equivalents equaled $62.5 million. During 2005, the
Company generated $219.5 million of cash flows from operations, which is $37.3 million above the
amount reported in 2004. The improvement was attributable to increased profitability levels
experienced by the Company, partially offset by higher working capital investment, particularly
receivables, associated with the continued increase in worldwide drilling activity.
In 2005, cash flows used in investing activities totaled $212.3 million, consisting of amounts
required to fund capital expenditures and, to a lesser extent, acquisitions. The Company invested
$151.4 million in property, plant and equipment, net of cash proceeds arising from certain asset
disposals. Acquisition funding, which primarily related to the
purchase of the Tubular Technology Inc. and Nunez Oil Field Pipe
Ltd. operations resulted in cash outflows of
$81.3 million in 2005.
Projected net capital expenditures for 2006 are expected to approximate $190 million, with the
year-over-year increase driven by the inclusion of approximately $30 million of non-recurring
facility-related investment. The majority of the 2006 capital spending is expected to consist of
spending for routine additions of rental tool and manufacturing equipment to support the Company’s
operations and maintenance of the Company’s capital equipment base.
Cash flows provided by financing activities totaled $2.4 million in 2005. Operating cash flow
was sufficient to fund investing activities; however, amounts required to finance repurchases under
the Company’s stock buyback program and dividend payments
resulted in $144.7 million of incremental borrowings under
existing credit facilities.
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 December 31, 2005, the Company had $162.8 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 year-end, the Company had available borrowing capacity of $76.9
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 year-end, 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.
During 2005, the Company’s Board of Directors approved a cash dividend program for
stockholders. On March 1, 2006, the Company’s Board of Directors increased the quarterly cash
dividend to $0.08 per share. The projected annual payout of approximately $65 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.
In October 2005, the Company completed a previously announced share repurchase program. On
October 20, 2005, the Board of Directors approved a new repurchase program that allows for the
purchase of up to 20 million shares of the Company’s common stock, subject to
19
regulatory issues,
market considerations and other relevant factors. Future repurchases
under the program may be
executed from time to time in the open market or in privately negotiated transactions and will be
funded with cash flows from operations or amounts available under existing credit facilities.
In February 2006,
M-I SWACO acquired Norwegian-based Epcon Offshore AS for cash consideration of $46.4
million. The transaction was initially funded with borrowings under
an expanded local credit facility and will be refinanced with a
four-year term note during the first half of 2006. 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.
The Company believes that it has sufficient existing manufacturing capacity to meet current
demand for its products and services. Additionally, although inflation has had a modest impact on
the Company’s financial results in the three most recent fiscal years, the Company experienced
sizable increases in transportation costs, as well as, petrochemical, steel and other commodity
prices during 2005. These costs, however, do not comprise a significant portion of the Company’s
overall cost structure and the Company has generally been able to offset most of these costs
through productivity gains and price increases.
The Company has not engaged in off-balance sheet financing arrangements through special
purpose entities, and the consolidation of the Company’s minority ownership positions would not
result in an increase in reported leverage ratios. The Company has no contractual arrangements in
place that could result in the issuance of additional shares of the Company’s common stock at a
future date other than the Company’s stock-based compensation program, which is discussed in Note
1, “Summary of Significant Accounting Policies,” and Note 14, “Long-Term Incentive Compensation.”
Contractual Obligations, Commitments and Contingencies
Contractual Obligations
The following table summarizes the Company’s debt maturities, estimated interest on fixed rate
long-term debt and future minimum payments under non-cancelable operating leases having initial
terms in excess of one year as of December 31, 2005 (in thousands):
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
Amount of Commitment Expiration per Period |
|
| |
|
|
|
|
|
Less than |
|
|
1-3 |
|
|
3-5 |
|
|
More than |
|
| |
|
Total |
|
|
1 year |
|
|
years |
|
|
years |
|
|
5 years |
|
Debt maturities |
|
$ |
744,507 |
|
|
$ |
133,650 |
|
|
$ |
158,234 |
|
|
$ |
232,734 |
|
|
$ |
219,889 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest on fixed rate
long-term debt |
|
|
97,411 |
|
|
|
26,284 |
|
|
|
38,333 |
|
|
|
29,700 |
|
|
|
3,094 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating lease commitments |
|
|
179,769 |
|
|
|
46,883 |
|
|
|
60,934 |
|
|
|
28,682 |
|
|
|
43,270 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
1,021,687 |
|
|
$ |
206,817 |
|
|
$ |
257,501 |
|
|
$ |
291,116 |
|
|
$ |
266,253 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In the normal course of business, the Company enters into lease agreements with cancellation
provisions as well as agreements with initial terms of less than one year. The costs related to
these leases have been reflected in rent expense, which totaled $102.1 million in 2005, but have
been appropriately excluded from the future minimum payments presented in the table above. Amounts
related to commitments under capital lease agreements, as well as pension and other postretirement
obligations, were immaterial for the periods presented.
Standby Letters of Credit
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 which reinsure certain liability
coverages of the Company’s insurance captive. Excluding the impact of these instruments, for which
$19.5 million of related liabilities are reflected in the accompanying consolidated balance sheet,
the Company was contingently liable for approximately $49.8 million of standby letters of credit
and bid, performance and surety bonds at December 31, 2005. Management does not expect any
material amounts to be drawn on these instruments.
20
Insurance
The Company maintains insurance coverage for various aspects of its business and operations.
The Company has elected to retain a portion of losses that occur through the use of deductibles and
retentions under its insurance programs. Amounts in excess of the self-insured retention levels
are fully insured to limits believed appropriate for the Company’s operations. Self-insurance
accruals are based on claims filed and an estimate for claims incurred but not reported. While
management believes that amounts accrued in the accompanying consolidated financial statements are
adequate for expected liabilities arising from the Company’s portion of losses, estimates of these
liabilities may change as circumstances develop.
Litigation
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 appealed the
verdict and does not anticipate a ruling until the third 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 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 December 31, 2005, the Company’s environmental reserve totaled $9.6 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 December 31, 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. Subsequent to December 31,
2005, the two parties reached an agreement in principle whereby M-I SWACO’s former
owners agreed to pay an outstanding receivable owed to the Company,
assume all environmental liabilities associated with two identified
sites and reimburse the Company for certain future environmental
remediation costs.
21
Critical Accounting Policies and Estimates
The discussion and analysis of financial condition and results of operations are based upon
the Company’s consolidated financial statements, which have been prepared in accordance with
accounting principles generally accepted in the United States. The preparation of these financial
statements requires management 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 on-going 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.
The Company believes the following describes significant judgments and estimates used in the
preparation of its consolidated financial statements:
Allowance for doubtful accounts. The Company extends credit to customers and other parties in
the normal course of business. Management regularly reviews outstanding receivables and provides
for estimated losses through an allowance for doubtful accounts. In evaluating the level of
established reserves, management makes judgments regarding the parties’ ability to make required
payments, economic events and other factors. As the financial condition of these parties change,
circumstances develop or additional information becomes available, adjustments to the allowance
for doubtful accounts may be required.
Inventory reserves. The Company has made significant investments in inventory to service its
customers around the world. On a routine basis, the Company uses judgments in determining the
level of reserves required to state inventory at the lower of cost or market. Management’s
estimates are primarily influenced by technological innovations, market activity levels and the
physical condition of products. Changes in these or other factors may result in adjustments to
the carrying value of inventory.
Goodwill. The Company has acquired a number of operations during the past decade, which has
resulted in the recording of a material amount of goodwill. Under SFAS No. 142, “Goodwill and
Other Intangible Assets,” the Company is required to perform an annual goodwill impairment
evaluation, which is largely influenced by future cash flow projections. Estimating future cash
flows of the Company’s operations requires management to make judgments about future operating
results and working capital requirements. Although the majority of the goodwill relates to the
Company’s Oilfield operations, $37.9 million of goodwill relates to Distribution transactions.
Changes in cash flow assumptions or other factors that negatively impact the fair value of the
operations would influence the evaluation and may result in the determination that a portion of
the goodwill is impaired when the annual analysis is performed.
Self-Insurance. The Company maintains insurance coverage for various aspects of its business and
operations. The Company retains a portion of losses that occur through the use of deductibles
and retentions under self-insurance programs. Management regularly reviews estimates of reported
and unreported claims and provides for losses through insurance reserves. As claims develop and
additional information becomes available, adjustments to loss reserves may be required.
Income taxes. Deferred tax assets and liabilities are recognized for differences between the
book basis and tax basis of the net assets of the Company. In providing for deferred taxes,
management considers current tax regulations, estimates of future taxable income and available
tax planning strategies. In certain cases, management has established reserves to reduce
deferred tax assets to estimated realizable value. If tax regulations, operating results or the
ability to implement tax planning strategies vary, adjustments to the carrying value of deferred
tax assets and liabilities may be required.
Environmental Obligations. The Company records liabilities for environmental obligations when
remedial efforts are probable and the costs can be reasonably estimated. Management’s estimates
are based on currently enacted laws and regulations. As more information becomes available or
environmental laws and regulations change, such liabilities may be required to be adjusted.
Additionally, in connection with acquisitions, the Company generally obtains indemnifications
from the seller related to environmental matters. If the indemnifying parties do not fulfill
their obligations, adjustments of recorded amounts may be required.
22
Recent Accounting Pronouncements
On January 1, 2003, the Company adopted SFAS No. 143, “Accounting for Asset Retirement
Obligations,” which addresses the financial accounting and reporting for retirement obligations and
costs associated with tangible long-lived assets. Upon adoption, the Company recognized a charge
of $2.5 million, or $1.2 million after tax and minority interests, to reflect the cumulative amount
of expense that was required to be recognized as of January 1, 2003. This amount has been recorded
as a cumulative effect of change in accounting principle in the accompanying statement of
operations. The amounts charged to earnings in 2005, 2004 and 2003 were not significant to net
income or earnings per share amounts.
In 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123 (revised 2004),
“Share-Based Payment” (“SFAS No. 123r”), which addresses the financial accounting and reporting of
share-based payments to employees, including stock option awards. SFAS No. 123r, which was
required to be adopted by the Company on January 1, 2006, provides for the inclusion of share-based
compensation expense in the consolidated financial statements. Share-based compensation, which is
determined based upon the fair value of the award as of the date of grant, is generally required to
be expensed over the service period of the related award. Based on stock options outstanding as of
December 31, 2005, the adoption of SFAS 123r is expected to result in the recognition of $14.4
million of future compensation expense, of which $8.9 million is expected to be recorded during the
2006 fiscal year.
From time to time, new accounting pronouncements are issued by the FASB that 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 financial statements upon adoption.
23
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
The Company is exposed to market risks from changes in interest rates and foreign exchange
rates and enters into various hedging transactions to mitigate these risks. The Company does not
use financial instruments for trading or speculative purposes. See Note 9, “Financial
Instruments,” to the Consolidated Financial Statements for additional discussion of hedging
instruments.
The Company’s exposure to interest rate changes is managed through the use of a combination of
fixed and floating rate debt and by entering into interest rate contracts, from time to time, on a
portion of its long-term borrowings. The Company had no interest rate contracts outstanding as of
December 31, 2005 and 2004. At December 31, 2005, 38 percent of the Company’s long-term debt
carried a variable interest rate. Management believes that significant interest rate changes will
not have a material near-term impact on the Company’s future earnings or cash flows.
The Company’s exposure to changes in foreign exchange rates is managed primarily through the
use of forward exchange contracts. These contracts increase or decrease in value as foreign
exchange rates change, to protect the value of the underlying transactions denominated in foreign
currencies. All currency contracts are components of the Company’s hedging program and are entered
into for the sole purpose of hedging an existing or anticipated currency exposure. The gains and
losses on these contracts offset changes in the value of the related exposures. The terms of these
contracts generally do not exceed two years. As of December 31, 2005, the notional amounts of fair
value hedge contracts and cash flow hedge contracts outstanding were $99.8 million and $40.4
million, respectively, and the fair value was less than the notional amount of these contracts by
$1.7 million. As of December 31, 2004, the notional amount of fair value hedge contracts
outstanding was $99.6 million, approximating the fair value of these contracts. In some areas,
where hedging is not cost effective, the Company addresses foreign currency exposure utilizing
working capital management.
The Company utilizes a “Value-at-Risk” (“VAR”) model to determine the maximum potential
one-day loss in the fair value of its foreign exchange sensitive financial instruments. The VAR
model estimates were made assuming normal market conditions and a 95 percent confidence level. The
Company’s VAR computations are based on the historical price movements in various currencies (a
“historical” simulation) during the year. The model includes all of the Company’s foreign exchange
derivative contracts. Anticipated transactions, firm commitments and assets and liabilities
denominated in foreign currencies, which certain of these instruments are intended to hedge, were
excluded from the model. The VAR model is a risk analysis tool and does not purport to represent
actual losses in fair value that will be incurred by the Company, nor does it consider the
potential effect of favorable changes in market factors. The estimated maximum potential one-day
loss in fair value of currency sensitive instruments, calculated using the VAR model, was not
material to the Company’s financial position or results of operations.
24
Item 8. Financial Statements and Supplementary Data
Management’s Report on Internal Control Over Financial Reporting
Management of the Company is responsible for establishing and maintaining effective internal
control over financial reporting as defined in Rule 13a – 15(f) under the Securities Exchange Act
of 1934. The Company’s internal control over financial reporting is designed to provide
reasonable, not absolute, assurance to the Company’s management and board of directors regarding
the preparation and fair presentation of published financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or
detect misstatements. Therefore, even those systems determined to be effective can provide only
reasonable, not absolute, assurance with respect to financial statement preparation and
presentation.
The Company’s management assessed the effectiveness of the Company’s internal control over
financial reporting based on criteria established in Internal Control—Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment,
management believes that the Company’s internal control over financial reporting was effective as
of December 31, 2005.
Management’s assessment of the effectiveness of internal control over financial reporting as of
December 31, 2005 has been audited by Deloitte & Touche LLP, the independent registered public
accounting firm who also audited the Company’s consolidated financial statements. The Deloitte &
Touche LLP attestation report on management’s assessment of the Company’s internal control over
financial reporting appears on page 26 of this Annual Report on Form 10-K.
| |
|
|
|
|
/s/ Doug Rock
|
|
/s/ Loren K. Carroll
|
|
/s/ Margaret K. Dorman |
|
|
|
|
|
Doug Rock
|
|
Loren K. Carroll
|
|
Margaret K. Dorman |
Chairman of the Board and
|
|
Executive Vice President
|
|
Senior Vice President, |
Chief Executive Officer
|
|
|
|
Chief Financial Officer and Treasurer |
25
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of Smith International, Inc.:
We have audited management’s assessment, included in the accompanying Management’s Report on
Internal Control Over Financial Reporting, that Smith International, Inc. and subsidiaries (the
“Company”) maintained effective internal control over financial reporting as of December 31, 2005,
based on criteria established in Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for
maintaining effective internal control over financial reporting and for its assessment of the
effectiveness of internal control over financial reporting. Our responsibility is to express an
opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal
control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control over financial reporting was
maintained in all material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management’s assessment, testing and evaluating the
design and operating effectiveness of internal control, and performing such other procedures as we
considered necessary in the circumstances. We believe that our audit provides a reasonable basis
for our opinions.
A company’s internal control over financial reporting is a process designed by, or under the
supervision of, the company’s principal executive and principal financial officers, or persons
performing similar functions, and effected by the company’s board of directors, management, and
other personnel to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes
those policies and procedures that (1) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted accounting principles,
and that receipts and expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the
company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the
possibility of collusion or improper management override of controls, material misstatements due to
error or fraud may not be prevented or detected on a timely basis. Also, projections of any
evaluation of the effectiveness of the internal control over financial reporting to future periods
are subject to the risk that the controls may become inadequate because of changes in conditions,
or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assessment that the Company maintained effective internal control over
financial reporting as of December 31, 2005, is fairly stated, in all material respects, based on
the criteria established in Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission. Also in our opinion, the Company maintained,
in all material respects, effective internal control over financial reporting as of December 31,
2005, based on the criteria established in Internal Control—Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the consolidated financial statements and financial statement schedule as of
and for the year ended December 31, 2005 of the Company and our
report dated March 13, 2006
expressed an unqualified opinion on those financial statements and financial statement schedule and
included an explanatory paragraph regarding the Company’s adoption of the provisions of Statement
of Financial Accounting Standard No. 143, “Accounting for Asset Retirement Obligations” in 2003.
DELOITTE & TOUCHE LLP
Houston, Texas
March 13, 2006
26
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of Smith International, Inc.:
We have audited the accompanying consolidated balance sheets of Smith International, Inc. and
subsidiaries (the “Company”) as of December 31, 2005 and 2004, and the related consolidated
statements of operations, stockholders’ equity and comprehensive income, and cash flows for each
of the three years in the period ended December 31, 2005. Our audits also included the financial
statement schedule listed in Part IV, Item 15 (a) (2). These financial statements and the
financial statement schedule are the responsibility of the Company’s management. Our
responsibility is to express an opinion on the financial statements and financial statement
schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects,
the financial position of Smith International, Inc. and subsidiaries as of December 31, 2005 and
2004, and the results of their operations and their cash flows for each of the three years in the
period ended December 31, 2005, in conformity with accounting principles generally accepted in the
United States of America. Also, in our opinion, such financial statement schedule, when considered
in relation to the basic consolidated financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the effectiveness of the Company’s internal control over financial reporting
as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated
March 13, 2006 expressed an unqualified opinion on management’s assessment of the effectiveness of
the Company’s internal control over financial reporting and an unqualified opinion on the
effectiveness of the Company’s internal control over financial reporting.
As discussed in Note 1 to the consolidated financial statements, the Company adopted the provisions
of Statement of Financial Accounting Standards No. 143, “Accounting for Asset Retirement
Obligations” in 2003.
DELOITTE & TOUCHE LLP
Houston, Texas
March 13, 2006
27
SMITH INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except par value data)
| |
|
|
|
|
|
|
|
|
| |
|
December 31, |
|
| |
|
2005 |
|
|
2004 |
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current Assets: |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
62,543 |
|
|
$ |
53,596 |
|
Receivables, net (Note 1) |
|
|
1,200,289 |
|
|
|
963,622 |
|
Inventories, net |
|
|
1,059,992 |
|
|
|
890,462 |
|
Deferred tax assets, net |
|
|
48,467 |
|
|
|
47,083 |
|
Prepaid expenses and other |
|
|
65,940 |
|
|
|
64,869 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
2,437,231 |
|
|
|
2,019,632 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Property, Plant and Equipment, net |
|
|
665,389 |
|
|
|
576,954 |
|
|
|
|
|
|
|
|
|
|
Goodwill, net |
|
|
737,048 |
|
|
|
713,353 |
|
|
|
|
|
|
|
|
|
|
Other Intangible Assets, net |
|
|
78,779 |
|
|
|
68,597 |
|
|
|
|
|
|
|
|
|
|
Other Assets |
|
|
141,467 |
|
|
|
128,242 |
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
4,059,914 |
|
|
$ |
3,506,778 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders’ Equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current Liabilities: |
|
|
|
|
|
|
|
|
Short-term borrowings and current portion of long-term debt |
|
$ |
133,650 |
|
|
$ |
211,375 |
|
Accounts payable |
|
|
479,206 |
|
|
|
376,782 |
|
Accrued payroll costs |
|
|
108,419 |
|
|
|
89,200 |
|
Income taxes payable |
|
|
91,303 |
|
|
|
91,587 |
|
Other |
|
|
120,575 |
|
|
|
118,413 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
933,153 |
|
|
|
887,357 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-Term Debt |
|
|
610,857 |
|
|
|
387,798 |
|
|
|
|
|
|
|
|
|
|
Deferred Tax Liabilities |
|
|
107,838 |
|
|
|
93,777 |
|
|
|
|
|
|
|
|
|
|
Other Long-Term Liabilities |
|
|
86,853 |
|
|
|
82,352 |
|
|
|
|
|
|
|
|
|
|
Minority Interests |
|
|
742,708 |
|
|
|
654,683 |
|
|
|
|
|
|
|
|
|
|
Commitments and Contingencies (Note 16) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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); 213,270 shares issued in 2005 (105,297 shares
issued in 2004, on a pre-split basis) |
|
|
213,270 |
|
|
|
105,297 |
|
Additional paid-in capital |
|
|
383,695 |
|
|
|
432,395 |
|
Retained earnings |
|
|
1,215,483 |
|
|
|
961,574 |
|
Accumulated other comprehensive income |
|
|
6,901 |
|
|
|
24,404 |
|
Less – Treasury securities, at cost; 12,301 common shares in 2005
(4,222 common shares in 2004, on a pre-split basis) |
|
|
(240,844 |
) |
|
|
(122,859 |
) |
|
|
|
|
|
|
|
Total stockholders’ equity |
|
|
1,578,505 |
|
|
|
1,400,811 |
|
|
|
|
|
|
|
|
Total Liabilities and Stockholders’ Equity |
|
$ |
4,059,914 |
|
|
$ |
3,506,778 |
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these financial statements.
28
SMITH INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
For the Years Ended December 31, |
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Revenues |
|
$ |
5,579,003 |
|
|
$ |
4,419,015 |
|
|
$ |
3,594,828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
Costs of revenues |
|
|
3,893,865 |
|
|
|
3,067,076 |
|
|
|
2,518,897 |
|
Selling expenses |
|
|
786,668 |
|
|
|
685,272 |
|
|
|
586,163 |
|
General and administrative expenses |
|
|
227,909 |
|
|
|
227,903 |
|
|
|
161,021 |
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses |
|
|
4,908,442 |
|
|
|
3,980,251 |
|
|
|
3,266,081 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
|
670,561 |
|
|
|
438,764 |
|
|
|
328,747 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
44,446 |
|
|
|
38,762 |
|
|
|
40,964 |
|
Interest income |
|
|
(1,692 |
) |
|
|
(1,300 |
) |
|
|
(1,973 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes, minority
interests and cumulative effect of
change in accounting principle |
|
|
627,807 |
|
|
|
401,302 |
|
|
|
289,756 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax provision |
|
|
202,743 |
|
|
|
129,721 |
|
|
|
93,334 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minority interests |
|
|
122,759 |
|
|
|
89,130 |
|
|
|
71,788 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before cumulative effect of
change in accounting principle |
|
|
302,305 |
|
|
|
182,451 |
|
|
|
124,634 |
|
Cumulative effect of change in
accounting principle, net of tax and
minority interests |
|
|
— |
|
|
|
— |
|
|
|
(1,154 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
302,305 |
|
|
$ |
182,451 |
|
|
$ |
123,480 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share before
cumulative effect of change in accounting principle |
|
$ |
1.50 |
|
|
$ |
0.90 |
|
|
$ |
0.63 |
|
Cumulative effect of change in
accounting principle, net of tax
and minority interests |
|
|
— |
|
|
|
— |
|
|
|
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
Earnings per share |
|
$ |
1.50 |
|
|
$ |
0.90 |
|
|
$ |
0.62 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share before
cumulative effect of change in accounting principle |
|
$ |
1.48 |
|
|
$ |
0.89 |
|
|
$ |
0.62 |
|
Cumulative effect of change in
accounting principle, net of tax
and minority interests |
|
|
— |
|
|
|
— |
|
|
|
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
Earnings per share |
|
$ |
1.48 |
|
|
$ |
0.89 |
|
|
$ |
0.61 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding: |
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
201,651 |
|
|
|
202,664 |
|
|
|
199,630 |
|
Diluted |
|
|
204,522 |
|
|
|
205,138 |
|
|
|
201,806 |
|
The accompanying notes are an integral part of these financial statements.
29
SMITH INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
For the Years Ended December 31, |
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
302,305 |
|
|
$ |
182,451 |
|
|
$ |
123,480 |
|
Adjustments to reconcile net income to net cash provided by
operating activities, excluding the net effects of
acquisitions: |
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
117,722 |
|
|
|
106,493 |
|
|
|
101,709 |
|
Minority interests |
|
|
122,759 |
|
|
|
89,130 |
|
|
|
71,788 |
|
Deferred income tax provision (benefit) |
|
|
10,636 |
|
|
|
(1,764 |
) |
|
|
8,154 |
|
Provision for losses on receivables |
|
|
4,216 |
|
|
|
3,846 |
|
|
|
3,835 |
|
Increase in LIFO inventory reserves |
|
|
22,144 |
|
|
|
28,177 |
|
|
|
231 |
|
Gain on disposal of property, plant and equipment |
|
|
(14,812 |
) |
|
|
(10,592 |
) |
|
|
(8,463 |
) |
Foreign currency translation losses |
|
|
1,213 |
|
|
|
1,790 |
|
|
|
1,516 |
|
Share-based
compensation expense |
|
|
5,947 |
|
|
|
684 |
|
|
|
916 |
|
Cumulative effect of change in accounting principle |
|
|
— |
|
|
|
— |
|
|
|
1,154 |
|
Patent
litigation-related charges |
|
|
5,640 |
|
|
|
31,439 |
|
|
|
— |
|
Gain on sale of investments in unconsolidated subsidiaries |
|
|
(5,898 |
) |
|
|
— |
|
|
|
— |
|
Equity
earnings, net of dividends received |
|
|
(10,420 |
) |
|
|
(5,217 |
) |
|
|
987 |
|
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
Receivables |
|
|
(243,882 |
) |
|
|
(153,066 |
) |
|
|
(161,205 |
) |
Inventories |
|
|
(197,204 |
) |
|
|
(167,879 |
) |
|
|
(90,167 |
) |
Accounts payable |
|
|
105,832 |
|
|
|
61,669 |
|
|
|
49,452 |
|
Patent
litigation-related payments |
|
|
(31,040 |
) |
|
|
(6,039 |
) |
|
|
— |
|
Other current assets and liabilities |
|
|
40,292 |
|
|
|
27,292 |
|
|
|
45,085 |
|
Other non-current assets and liabilities |
|
|
(15,996 |
) |
|
|
(6,240 |
) |
|
|
(5,890 |
) |
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
219,454 |
|
|
|
182,174 |
|
|
|
142,582 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Acquisitions, net of cash acquired |
|
|
(81,328 |
) |
|
|
(72,350 |
) |
|
|
(101,789 |
) |
Purchases of property, plant and equipment |
|
|
(177,845 |
) |
|
|
(111,449 |
) |
|
|
(98,923 |
) |
Proceeds from disposal of property, plant and equipment |
|
|
26,426 |
|
|
|
20,679 |
|
|
|
22,902 |
|
Proceeds from sale of investments in unconsolidated
subsidiaries |
|
|
20,496 |
|
|
|
— |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(212,251 |
) |
|
|
(163,120 |
) |
|
|
(177,810 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from issuance of long-term debt |
|
|
187,804 |
|
|
|
68,858 |
|
|
|
116,615 |
|
Principal payments of long-term debt |
|
|
(57,592 |
) |
|
|
(85,832 |
) |
|
|
(135,499 |
) |
Net change in short-term borrowings |
|
|
14,478 |
|
|
|
54,114 |
|
|
|
2,014 |
|
Purchases of treasury stock |
|
|
(117,820 |
) |
|
|
(92,002 |
) |
|
|
— |
|
Payment of common stock dividends |
|
|
(36,353 |
) |
|
|
— |
|
|
|
— |
|
Proceeds from employee stock option exercises |
|
|
39,847 |
|
|
|
61,016 |
|
|
|
18,958 |
|
Distributions to minority interest partner |
|
|
(28,000 |
) |
|
|
(23,200 |
) |
|
|
(4,000 |
) |
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities |
|
|
2,364 |
|
|
|
(17,046 |
) |
|
|
(1,912 |
) |
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash |
|
|
(620 |
) |
|
|
302 |
|
|
|
1,676 |
|
|
|
|
|
|
|
|
|
|
|
Increase (decrease) in cash and cash equivalents |
|
|
8,947 |
|
|
|
2,310 |
|
|
|
(35,464 |
) |
Cash and cash equivalents at beginning of year |
|
|
53,596 |
|
|
|
51,286 |
|
|
|
86,750 |
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of year |
|
$ |
62,543 |
|
|
$ |
53,596 |
|
|
$ |
51,286 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash flow information: |
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
44,217 |
|
|
$ |
38,158 |
|
|
$ |
41,306 |
|
Cash paid for income taxes |
|
|
177,697 |
|
|
|
111,568 |
|
|
|
50,980 |
|
The accompanying notes are an integral part of these financial statements.
30
SMITH INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
For the Years Ended December 31, 2005, 2004 and 2003
(In thousands, except share data)
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
Treasury Securities |
|
|
|
|
| |
|
Common Stock |
|
|
Additional |
|
|
|
|
|
|
Other |
|
|
Common Stock |
|
|
Total |
|
| |
|
Number of |
|
|
|
|
|
|
Paid-in |
|
|
Retained |
|
|
Comprehensive |
|
|
Number of |
|
|
|
|
|
|
Stockholders’ |
|
| |
|
Shares |
|
|
Amount |
|
|
Capital |
|
|
Earnings |
|
|
Income |
|
|
Shares |
|
|
Amount |
|
|
Equity |
|
Balance, January 1, 2003 |
|
|
101,545,942 |
|
|
$ |
101,546 |
|
|
$ |
345,911 |
|
|
$ |
655,643 |
|
|
$ |
(10,435 |
) |
|
|
(2,384,108 |
) |
|
$ |
(29,130 |
) |
|
$ |
1,063,535 |
|
Net income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
123,480 |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
123,480 |
|
Currency translation adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
22,073 |
|
|
|
— |
|
|
|
— |
|
|
|
22,073 |
|
Changes in unrealized fair
value of derivatives |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
36 |
|
|
|
— |
|
|
|
— |
|
|
|
36 |
|
Minimum pension liability
adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(49 |
) |
|
|
— |
|
|
|
— |
|
|
|
(49 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
123,480 |
|
|
|
22,060 |
|
|
|
— |
|
|
|
— |
|
|
|
145,540 |
|
Exercise of stock options and
vesting of restricted stock |
|
|
1,174,364 |
|
|
|
1,174 |
|
|
|
25,527 |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
26,701 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2003 |
|
|
102,720,306 |
|
|
|
102,720 |
|
|
|
371,438 |
|
|
|
779,123 |
|
|
|
11,625 |
|
|
|
(2,384,108 |
) |
|
|
(29,130 |
) |
|
|
1,235,776 |
|
Net income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
182,451 |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
182,451 |
|
Currency translation adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
14,963 |
|
|
|
— |
|
|
|
— |
|
|
|
14,963 |
|
Changes in unrealized fair
value of derivatives |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(2,471 |
) |
|
|
— |
|
|
|
— |
|
|
|
(2,471 |
) |
Minimum pension liability
adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
287 |
|
|
|
— |
|
|
|
— |
|
|
|
287 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
182,451 |
|
|
|
12,779 |
|
|
|
— |
|
|
|
— |
|
|
|
195,230 |
|
Purchases of treasury stock |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(1,807,600 |
) |
|
|
(92,002 |
) |
|
|
(92,002 |
) |
Exercise of stock options and
vesting of restricted stock |
|
|
2,576,347 |
|
|
|
2,577 |
|
|
|
60,957 |
|
|
|
— |
|
|
|
— |
|
|
|
(30,758 |
) |
|
|
(1,727 |
) |
|
|
61,807 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2004 |
|
|
105,296,653 |
|
|
|
105,297 |
|
|
|
432,395 |
|
|
|
961,574 |
|
|
|
24,404 |
|
|
|
(4,222,466 |
) |
|
|
(122,859 |
) |
|
|
1,400,811 |
|
Net income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
302,305 |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
302,305 |
|
Currency translation adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(14,635 |
) |
|
|
— |
|
|
|
— |
|
|
|
(14,635 |
) |
Changes in unrealized fair
value of derivatives |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(2,044 |
) |
|
|
— |
|
|
|
— |
|
|
|
(2,044 |
) |
Minimum pension liability
adjustments |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(824 |
) |
|
|
— |
|
|
|
— |
|
|
|
(824 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
302,305 |
|
|
|
(17,503 |
) |
|
|
— |
|
|
|
— |
|
|
|
284,802 |
|
Purchases of treasury stock |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(2,198,800 |
) |
|
|
(117,820 |
) |
|
|
(117,820 |
) |
Dividends declared |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(48,396 |
) |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(48,396 |
) |
Exercise of stock options and
vesting of restricted stock |
|
|
1,784,237 |
|
|
|
1,784 |
|
|
|
57,489 |
|
|
|
— |
|
|
|
— |
|
|
|
(4,276 |
) |
|
|
(165 |
) |
|
|
59,108 |
|
Two-for-one common stock split
(Note 11) |
|
|
106,188,814 |
|
|
|
106,189 |
|
|
|
(106,189 |
) |
|
|
— |
|
|
|
— |
|
|
|
(5,875,386 |
) |
|
|
— |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2005 |
|
|
213,269,704 |
|
|
$ |
213,270 |
|
|
$ |
383,695 |
|
|
$ |
1,215,483 |
|
|
$ |
6,901 |
|
|
|
(12,300,928 |
) |
|
$ |
(240,844 |
) |
|
$ |
1,578,505 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these financial statements.
31
SMITH INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(All dollar amounts are expressed in thousands, unless otherwise noted)
1. Summary of Significant Accounting Policies
Basis of Presentation
Smith International, Inc. (“Smith” or the “Company”) provides premium products and services to
the oil and gas exploration and production industry, the petrochemical industry and other
industrial markets. The accompanying consolidated financial statements were prepared in accordance
with accounting principles generally accepted in the United States and all applicable financial
statement rules and regulations of the Securities and Exchange Commission (the “Commission”).
Management believes the consolidated financial statements present fairly the financial position,
results of operations and cash flows of the Company as of the dates indicated.
The consolidated financial statements include the accounts of the Company and all wholly and
majority-owned subsidiaries, after the elimination of all significant intercompany accounts and
transactions. Investments in affiliates in which ownership interest ranges from 20 to 50 percent,
and the Company exercises significant influence over operating and financial policies, are
accounted for on the equity method. All other investments are carried at cost, which does not
exceed the estimated net realizable value of such investments.
Stock Split
In July 2005, the Company’s Board of Directors approved a two-for-one stock split, which was
effected in the form of a stock dividend. Stockholders of record as of August 5, 2005 were
entitled to the dividend, which was distributed on August 24, 2005. Unless otherwise noted,
all prior year share and earnings per share amounts included in the accompanying consolidated
financial statements and related notes have been restated for the effect of the stock split.
Use of Estimates
Preparation of financial statements in conformity with accounting principles generally
accepted in the United States 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. Management believes the most
significant estimates and assumptions are associated with the valuation of accounts receivable,
inventories, goodwill and deferred taxes as well as the determination of liabilities related to
environmental obligations and self-insurance programs. 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 financial statements.
Cash and Cash Equivalents
The Company considers all highly liquid financial instruments purchased with an original
maturity of three months or less to be cash equivalents.
Allowance for Doubtful Accounts
The Company maintains an allowance for doubtful accounts to provide for receivables which may
ultimately be uncollectible. Reserves are determined in light of a number of factors including
customer specific conditions, economic events and the Company’s historical loss experience. At
December 31, 2005 and 2004, the allowance for doubtful accounts was $13.9 million and $12.6
million, respectively.
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 consist of materials, labor and factory overhead.
32
Fixed Assets
Fixed assets, consisting of rental equipment and property, plant and equipment, are stated at
cost, net of accumulated depreciation. The Company computes depreciation on fixed assets using
principally the straight-line method; however, for income tax purposes, accelerated methods of
depreciation are used. The estimated useful lives used in computing depreciation generally range
from 20 to 40 years for buildings, three to 25 years for machinery and equipment, and five to ten
years for rental equipment. Leasehold improvements are amortized over the initial lease term or
the estimated useful lives of the improvements, whichever is shorter. Depreciation expense for the
years ended December 31, 2005, 2004 and 2003 was $106.8 million, $96.9 million and $93.5 million,
respectively.
Costs of major renewals and betterments are capitalized as fixed assets; however, expenditures
for maintenance, repairs and minor improvements are charged to expense when incurred. When fixed
assets are sold or retired, the remaining cost and related accumulated depreciation are removed
from the accounts and the resulting gain or loss is included in the consolidated statement of
operations.
Goodwill and Other Intangible Assets
Goodwill represents the excess of cost over the fair value of net assets acquired. Recorded
goodwill balances are not amortized but, instead, are evaluated for impairment annually or more
frequently if circumstances indicate that an impairment may exist. The goodwill valuation, which
is prepared during the first quarter of each calendar year, is largely influenced by projected
future cash flows and, therefore, is significantly impacted by estimates and judgments.
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 generally consist of patents, license agreements, non-compete agreements,
trademarks and customer lists and contracts.
Impairment of Long-Lived Assets
Management reviews long-lived assets for impairment whenever events or changes in
circumstances indicate that the carrying amount may not be recoverable. If an evaluation is
required, the estimated undiscounted future cash flows associated with the asset will be compared
to the asset’s carrying amount to determine if an impairment exists.
Environmental Obligations
Expenditures for environmental obligations that relate to current operations are expensed or
capitalized, as appropriate. Liabilities are recorded when environmental clean-up efforts are
probable and their cost is reasonably estimated, and are adjusted as further information is
obtained. Such estimates are based on currently enacted laws and regulations and are not
discounted to present value.
Liabilities Related to Self-Insurance Programs
The Company is self-insured for certain casualty and employee medical insurance liabilities of
its U.S. operations. Expenditures for casualty and medical claims are recorded when incurred after
taking into consideration recoveries available under stop-loss insurance policies. Additionally,
reserves are established to provide for the estimated cost of settling known claims as well as
medical and casualty exposures projected to have been incurred but not yet reported.
Foreign Currency Translation and Transactions
Gains and losses resulting from balance sheet translation of operations outside the United
States where the applicable foreign currency is the functional currency are included as a component
of accumulated other comprehensive income within stockholders’ equity. Gains and losses resulting
from balance sheet translation of operations outside the United States where the U.S. dollar is the
functional currency are included in the consolidated statements of operations.
Gains and losses resulting from foreign currency transactions, excluding cash flow hedges
discussed below, are recognized currently in the consolidated statements of operations.
33
Financial Instruments
The nature of the Company’s business activities involves the management of various financial
and market risks, including those related to changes in currency exchange rates and interest rates.
The Company utilizes derivative financial instruments such as foreign exchange contracts, foreign
exchange options and interest rate contracts to mitigate or eliminate certain of those risks. The
Company does not enter into derivative instruments for speculative purposes.
The Company records changes in fair market value related to fair value hedges, which includes
foreign exchange contracts, to general and administrative expenses in the consolidated statements
of operations. Changes in value related to cash flow hedges, which includes foreign exchange
contracts, foreign exchange options and interest rate swaps, are recorded in accumulated other
comprehensive income and are recognized in the consolidated statement of operations when the hedged
item affects earnings.
Income Taxes
The Company accounts for income taxes using an asset and liability approach for financial
accounting and income tax reporting based on enacted tax rates. Deferred tax assets are reduced by
a valuation allowance when it is more likely than not that some portion, or all, of the deferred
tax assets will not be realized.
Revenue Recognition
The Company’s revenues, which are composed of product, rental, service and other revenues, are
generally subject to contractual arrangements which specify price and general terms and conditions.
The Company recognizes product revenues, net of applicable provisions for returns, when title and
the related risk of loss transfers to the customer. Rental, service and other revenues are
recorded when such services are performed and collectibility is reasonably assured.
Minority Interests
The Company records minority interest expense which reflects the portion of the earnings of
majority-owned operations which are applicable to the minority interest partners. The minority
interest amount primarily represents the share of the M-I SWACO profits associated with the
minority partner’s 40 percent interest in those operations. To a lesser extent, minority interests
include the portion of CE Franklin Ltd. and United Engineering Services LLC earnings applicable to
the respective minority shareholders.
Stock-Based Compensation
The Company’s Board of Directors and its stockholders have authorized a long-term incentive
plan for the benefit of key employees. Although the Plan provides for the issuance of various
stock-based awards, the Compensation Committee has elected to issue restricted stock units and,
prior to December, 2005, stock option awards.
Restricted stock units are considered compensatory awards and compensation expense related to
these units is being recognized over the established vesting period in the accompanying
consolidated financial statements. Prior to the mandatory adoption of SFAS No. 123 (revised 2004),
“Share-based Payment” (“SFAS 123r”), on January 1, 2006, companies could 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. Accordingly, the
Company has elected to make pro forma footnote disclosures rather than recognizing the related
compensation expense in the consolidated financial statements.
34
Had the Company elected to apply the fair value recognition provisions 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):
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Net income, as reported |
|
$ |
302,305 |
|
|
$ |
182,451 |
|
|
$ |
123,480 |
|
Add: Stock-based compensation
expense included in reported
income, net of related tax effect |
|
|
3,952 |
|
|
|
444 |
|
|
|
595 |
|
Less: Total stock-based
compensation expense determined
under fair value methods, net of
related tax effect |
|
|
(13,056 |
) |
|
|
(11,364 |
) |
|
|
(11,126 |
) |
|
|
|
|
|
|
|
|
|
|
Net income, pro forma |
|
$ |
293,201 |
|
|
$ |
171,531 |
|
|
$ |
112,949 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share: |
|
|
|
|
|
|
|
|
|
|
|
|
As reported: |
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
1.50 |
|
|
$ |
0.90 |
|
|
$ |
0.62 |
|
Diluted |
|
|
1.48 |
|
|
|
0.89 |
|
|
|
0.61 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma: |
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
1.45 |
|
|
$ |
0.85 |
|
|
$ |
0.57 |
|
Diluted |
|
|
1.43 |
|
|
|
0.84 |
|
|
|
0.56 |
|
Recent Accounting Pronouncements
On January 1, 2003, the Company adopted SFAS No. 143, “Accounting for Asset Retirement
Obligations,” which addresses the financial accounting and reporting for retirement obligations and
costs associated with tangible long-lived assets. Upon adoption, the Company recognized a charge
of $2.5 million, or $1.2 million after tax and minority interests, to reflect the cumulative amount
of expense that was required to be recognized as of January 1, 2003. This amount has been recorded
as a cumulative effect of change in accounting principle in the accompanying statement of
operations. The amounts charged to earnings in 2005, 2004 and 2003 were not significant to net
income or earnings per share amounts.
In 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123r, which
addresses the financial accounting and reporting of share-based payments to employees, including
stock option awards. SFAS No. 123r, which the Company adopted on January 1, 2006 using the
modified prospective method, provides for the inclusion of share-based compensation expense in the
consolidated financial statements. Share-based compensation, which is determined based upon the
fair value of the award as of the date of grant, is generally required to be expensed over the
service period of the related award. Based on stock options outstanding as of December 31, 2005,
the adoption of SFAS 123r is expected to result in the recognition of $14.4 million of future
compensation expense, of which $8.9 million is expected to be recorded during the 2006 fiscal year.
From time to time, new accounting pronouncements are issued by the FASB that 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 financial statements upon adoption.
2. Patent Litigation
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 was a patent infringement claim alleging that certain roller cone
drill bits made by the Company infringed several U.S. patents owned by Halliburton. The case was
tried in the second quarter of 2004, and the Company recorded a litigation-related charge based on
management’s best estimate of its potential exposure. This 2004 charge, which consisted of an
estimated loss provision, legal fees and other directly related costs, totaled $31.4 million, or $20.4 million on an after-tax basis.
In December 2005, the Company reached final settlement with Halliburton regarding all
outstanding drill bit patent litigation matters. In connection with the settlement, the Company
recorded an additional $5.6 million litigation-related charge, or $3.7 million on an after-tax
basis, which included legal fees and other costs directly associated with the settlement.
35
3. Business Combinations
During 2005, the Company completed six acquisitions in exchange for aggregate cash
consideration of $81.3 million and the assumption of certain liabilities. The 2005 transactions
primarily consist of the following:
On August 17, 2005, Smith Services acquired certain operating assets of Tubular Technology, Inc.
and associated companies for cash consideration of $23.2 million. The acquired operations
provide a full range of products and services used during the installation of
corrosion-resistant alloy tubulars and also offer proprietary products and technical services
used during the completion-phase of oil and gas wells, primarily to customers in the U.S. Gulf
Coast region.
On November 1, 2005, Smith Services acquired certain operating assets of Nunez Oil Field Pipe,
Ltd. and associated companies for cash consideration of $41.4 million. The acquired companies
rent and repair premium drill pipe, drill collars, and blow-out preventers and perform machine
shop and related inspection services in the United States.
The excess of the purchase price over the estimated fair value of the net assets acquired
amounted to $23.4 million, which has been recorded as goodwill in the Oilfield Products and
Services segment. Approximately $20.4 million of the goodwill related to the 2005 acquisitions is
expected to be deductible for tax purposes. The purchase price allocation related to the 2005
acquisitions is based on preliminary information and is subject to change when additional data
concerning final asset and liability valuations is obtained; however, material changes in the
preliminary allocations are not anticipated by management.
During 2004, the Company completed six acquisitions in exchange for aggregate cash
consideration of $49.2 million and the assumption of certain liabilities. In addition, cash
payments of $23.2 million were made during the year to former shareholders of businesses acquired
in 2002 to fund amounts due under earn-out arrangements and repay seller-financed notes. The 2004
transactions primarily consist of the following:
On January 31, 2004, M-I SWACO acquired certain specialty chemical assets of Fortum Oil and Gas
OY for cash consideration of $11.4 million. The acquired operations, formerly based in Finland,
manufacture and market specialty chemical products which improve hydrocarbon flow rates.
On July 31, 2004, Smith Services acquired certain operating assets of CanFish Services for cash
consideration of $17.5 million. The acquired operations provide fishing, milling, casing exit,
pipe recovery and related wireline services in the United States and Canada.
The excess of the purchase price over the estimated fair value of the net assets acquired
amounted to $15.9 million and has been recorded as goodwill in the Oilfield Products and Services
segment.
During 2003, the Company completed three acquisitions in exchange for aggregate cash
consideration of $92.1 million and the assumption of certain liabilities. In addition, cash
payments of $9.7 million were made during the year to former shareholders of businesses acquired in
2002 to fund amounts due under earn-out arrangements and repay seller-financed notes. The 2003
transactions primarily consist of the following:
On January 29, 2003, M-I SWACO acquired certain oilfield chemical assets of Dynea International
in exchange for cash consideration of $77.8 million. The acquired operations, formerly based in
Norway, provide a complete line of oilfield specialty chemicals used to eliminate hydrocarbon flow problems encountered during
production and transportation.
On October 1, 2003, M-I SWACO acquired certain operating assets of Alpine Mud Products for cash
consideration of $14.1 million. The acquired operations market a line of specialty fluid
additives used to enhance rates of penetration in critical drilling applications, primarily to
customers in the U.S. Gulf Coast region.
The excess of the purchase price over the estimated fair value of the net assets acquired
amounted to $66.1 million, which has been recorded as goodwill predominantly in the Oilfield
Products and Services segment.
These acquisitions have been recorded using the purchase method of accounting and,
accordingly, the acquired operations have been included in the results of operations since the date
of acquisition. Pro forma results of operations have not been presented because the effect of
these acquisitions was not material to the Company’s consolidated financial statements.
36
The following schedule summarizes investing activities related to 2005, 2004 and 2003
acquisitions included in the consolidated statements of cash flows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Fair value of tangible and identifiable intangible assets, net of
cash acquired |
|
$ |
68,597 |
|
|
$ |
44,103 |
|
|
$ |
34,922 |
|
Goodwill acquired |
|
|
23,444 |
|
|
|
15,860 |
|
|
|
66,147 |
|
Payments to former shareholders of businesses acquired |
|
|
— |
|
|
|
23,162 |
|
|
|
9,692 |
|
Total liabilities assumed |
|
|
(10,713 |
) |
|
|
(10,775 |
) |
|
|
(8,972 |
) |
|
|
|
|
|
|
|
|
|
|
Cash paid for acquisitions, net of cash acquired |
|
$ |
81,328 |
|
|
$ |
72,350 |
|
|
$ |
101,789 |
|
|
|
|
|
|
|
|
|
|
|
4. Earnings Per Share
Basic earnings per share (“EPS”) is computed using the weighted average number of common
shares outstanding during the period. Diluted EPS gives effect to the potential dilution of
earnings which could have occurred if additional shares were issued for stock option exercises
under the treasury stock method. Outstanding employee stock options of 0.4 million and 2.2 million
as of December 31, 2004 and 2003, respectively, were not included in the computation of diluted
earnings per common share as the exercise price was in excess of the average market price for the
Company’s stock during the corresponding period. The following schedule reconciles the income and
shares used in the basic and diluted EPS computations (in thousands, except per share data):
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Basic EPS: |
|
|
|
|
|
|
|
|
|
|
|
|
Income before cumulative effect of change in
accounting principle |
|
$ |
302,305 |
|
|
$ |
182,451 |
|
|
$ |
124,634 |
|
|
|
|
|
|
|
|
|
|
|
Weighted average number of common shares outstanding |
|
|
201,651 |
|
|
|
202,664 |
|
|
|
199,630 |
|
|
|
|
|
|
|
|
|
|
|
Basic EPS before cumulative effect of change in
accounting principle |
|
$ |
1.50 |
|
|
$ |
0.90 |
|
|
$ |
0.63 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted EPS: |
|
|
|
|
|
|
|
|
|
|
|
|
Income before cumulative effect of change in
accounting principle |
|
$ |
302,305 |
|
|
$ |
182,451 |
|
|
$ |
124,634 |
|
|
|
|
|
|
|
|
|
|
|
Weighted average number of common shares outstanding |
|
|
201,651 |
|
|
|
202,664 |
|
|
|
199,630 |
|
Dilutive effect of stock options |
|
|
2,871 |
|
|
|
2,474 |
|
|
|
2,176 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
204,522 |
|
|
|
205,138 |
|
|
|
201,806 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted EPS before cumulative effect of change in
accounting principle |
|
$ |
1.48 |
|
|
$ |
0.89 |
|
|
$ |
0.62 |
|
|
|
|
|
|
|
|
|
|
|
5. Inventories
Inventories consist of the following at December 31:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Raw materials |
|
$ |
86,961 |
|
|
$ |
78,773 |
|
Work-in-process |
|
|
111,399 |
|
|
|
81,002 |
|
Products purchased for resale |
|
|
303,307 |
|
|
|
252,486 |
|
Finished goods |
|
|
632,925 |
|
|
|
530,657 |
|
|
|
|
|
|
|
|
|
|
|
1,134,592 |
|
|
|
942,918 |
|
|
|
|
|
|
|
|
|
|
Reserves to state certain U.S. inventories
(FIFO cost of $386,643 and $337,080 in
2005 and 2004, respectively) on a LIFO basis |
|
|
(74,600 |
) |
|
|
(52,456 |
) |
|
|
|
|
|
|
|
|
|
$ |
1,059,992 |
|
|
$ |
890,462 |
|
|
|
|
|
|
|
|
During 2005, the Company recorded additional LIFO reserves of $22.1 million, primarily
reflecting the higher cost of steel and alloy products purchased in the Distribution segment.
37
6. Property, Plant and Equipment
Property, plant and equipment consist of the following at December 31:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Land |
|
$ |
37,753 |
|
|
$ |
35,954 |
|
Buildings |
|
|
153,467 |
|
|
|
147,442 |
|
Machinery and equipment |
|
|
587,808 |
|
|
|
555,469 |
|
Rental tools |
|
|
472,913 |
|
|
|
376,043 |
|
|
|
|
|
|
|
|
|
|
|
1,251,941 |
|
|
|
1,114,908 |
|
Less-Accumulated depreciation |
|
|
(586,552 |
) |
|
|
(537,954 |
) |
|
|
|
|
|
|
|
|
|
$ |
665,389 |
|
|
$ |
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 |
|
Balance as of December 31, 2003 |
|
$ |
652,822 |
|
|
$ |
37,771 |
|
|
$ |
690,593 |
|
Goodwill acquired |
|
|
15,860 |
|
|
|
— |
|
|
|
15,860 |
|
Purchase price and other adjustments |
|
|
6,900 |
|
|
|
— |
|
|
|
6,900 |
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2004 |
|
|
675,582 |
|
|
|
37,771 |
|
|
|
713,353 |
|
Goodwill acquired |
|
|
23,444 |
|
|
|
— |
|
|
|
23,444 |
|
Purchase price and other adjustments |
|
|
116 |
|
|
|
135 |
|
|
|
251 |
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2005 |
|
$ |
699,142 |
|
|
$ |
37,906 |
|
|
$ |
737,048 |
|
|
|
|
|
|
|
|
|
|
|
Other Intangible Assets
The components of other intangible assets at December 31 are as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
| |
|
Gross |
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
Average |
|
| |
|
Carrying |
|
|
Accumulated |
|
|
|
|
|
|
Carrying |
|
|
Accumulated |
|
|
|
|
|
|
Amortization |
|
| |
|
Amount |
|
|
Amortization |
|
|
Net |
|
|
Amount |
|
|
Amortization |
|
|
Net |
|
|
Period |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(years) |
|
Patents |
|
$ |
43,191 |
|
|
$ |
16,938 |
|
|
$ |
26,253 |
|
|
$ |
42,353 |
|
|
$ |
14,532 |
|
|
$ |
27,821 |
|
|
|
15.5 |
|
License
agreements |
|
|
29,308 |
|
|
|
7,181 |
|
|
|
22,127 |
|
|
|
26,044 |
|
|
|
4,420 |
|
|
|
21,624 |
|
|
|
10.8 |
|
Non-compete
agreements and
trademarks |
|
|
29,150 |
|
|
|
12,414 |
|
|
|
16,736 |
|
|
|
20,772 |
|
|
|
8,899 |
|
|
|
11,873 |
|
|
|
9.8 |
|
Customer lists
and contracts |
|
|
17,282 |
|
|
|
3,619 |
|
|
|
13,663 |
|
|
|
9,232 |
|
|
|
1,953 |
|
|
|
7,279 |
|
|
|
11.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
118,931 |
|
|
$ |
40,152 |
|
|
$ |
78,779 |
|
|
$ |
98,401 |
|
|
$ |
29,804 |
|
|
$ |
68,597 |
|
|
|
12.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization expense of other intangible assets was $10.4 million, $9.1 million and $7.5
million for the years ended December 31, 2005, 2004 and 2003, respectively. Additionally,
estimated future amortization expense is expected to range between $7.2 million and $12.1 million
per year for the next five fiscal years.
38
8. Debt
The following summarizes the Company’s outstanding debt at December 31:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Current: |
|
|
|
|
|
|
|
|
Short-term borrowings |
|
$ |
122,174 |
|
|
$ |
107,204 |
|
Current portion of long-term debt |
|
|
11,476 |
|
|
|
104,171 |
|
|
|
|
|
|
|
|
Short-term borrowings and current portion of long-term debt |
|
$ |
133,650 |
|
|
$ |
211,375 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-Term: |
|
|
|
|
|
|
|
|
Notes: |
|
|
|
|
|
|
|
|
6.75% Senior Notes maturing February 2011 with an effective interest rate of 6.83%.
Interest payable semi-annually (presented net of unamortized discount of $486 and
$605 in 2005 and 2004, respectively) |
|
$ |
219,514 |
|
|
$ |
219,395 |
|
7.0% Senior Notes maturing September 2007 with an effective interest rate of 7.07%.
Interest payable semi-annually (presented net of unamortized discount of $173 and
$277 in 2005 and 2004, respectively) |
|
|
149,827 |
|
|
|
149,723 |
|
7.7% Senior Secured Notes maturing July 2007. Principal due in equal annual
installments of $7.1 million. Interest payable semi-annually |
|
|
14,285 |
|
|
|
21,428 |
|
Bank revolvers payable: |
|
|
|
|
|
|
|
|
$275.0 million revolving note expiring May 2010. Interest payable quarterly at base
rate (7.25% at December 31, 2005) or Eurodollar rate, as defined
(4.69% at December 31, 2005) and described below |
|
|
205,100 |
|
|
|
80,000 |
|
M-I SWACO $125.0 million revolving note expiring May 2010. Interest payable
quarterly at base rate (7.25% at December 31, 2005) or Eurodollar rate, as defined
(4.69% at December 31, 2005) and described below |
|
|
27,600 |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
Term Loans: |
|
|
|
|
|
|
|
|
M-I SWACO 315.0 million Norwegian Krone term loan repaid in 2005 |
|
|
— |
|
|
|
10,689 |
|
Other |
|
|
6,007 |
|
|
|
10,734 |
|
|
|
|
|
|
|
|
|
|
|
622,333 |
|
|
|
491,969 |
|
Less-Current portion of long-term debt |
|
|
(11,476 |
) |
|
|
(104,171 |
) |
|
|
|
|
|
|
|
Long-term debt |
|
$ |
610,857 |
|
|
$ |
387,798 |
|
|
|
|
|
|
|
|
Principal payments of long-term debt for years subsequent to 2006 are as follows:
| |
|
|
|
|
|
|
|
|
2007 |
|
$ |
157,564 |
|
2008 |
|
|
670 |
|
2009 |
|
|
— |
|
2010 |
|
|
232,734 |
|
Thereafter |
|
|
219,889 |
|
|
|
|
|
|
|
$ |
610,857 |
|
|
|
|
|
39
The Company’s short-term borrowings consist of amounts outstanding under lines of credit and
short-term loans. Certain subsidiaries of the Company have unsecured credit facilities with
non-U.S. banks aggregating $199.1 million with $76.9 million of additional borrowing capacity
available under these facilities at December 31, 2005. These borrowings had a weighted average
interest rate of 7.0 percent and 7.5 percent at December 31, 2005 and 2004, respectively.
In addition to the credit facilities discussed above, the Company has a $400 million unsecured
revolving credit facility provided by a syndicate of nine financial institutions. 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. As of December 31,
2005, the Company had $232.7 million drawn and $4.5 million of letters of credit issued under the
facility, resulting in additional borrowing capacity of $162.8 million.
The 6.75 percent and 7.0 percent Senior Notes are unsecured obligations of the Company issued
under an Indenture dated September 8, 1997. The Indenture contains no financial covenants, nor any
restrictions related to the payment of cash dividends to common stockholders. The Company’s 6.75
percent and 7.0 percent Senior Notes are redeemable by the Company, in whole or in part, at any
time prior to maturity at a redemption price equal to accrued interest plus the greater of the
principal amount or the present value of the remaining principal and interest payments.
The Company was in compliance with its loan covenants under the various loan indentures, as
amended, at December 31, 2005.
9. Financial Instruments
Foreign Currency Contracts
The Company enters into spot and forward contracts as a hedge against foreign currency
denominated assets and liabilities and foreign currency commitments. The term of these contracts
generally do not exceed two years. For fair value hedges, realized and unrealized gains and losses
are recognized currently through earnings, and the resulting amounts generally offset foreign
exchange gains or losses on the related accounts. The Company recognized expense of approximately
$4.4 million, $2.4 million and $4.9 million in 2005, 2004 and 2003, respectively, related to net
realized and unrealized losses on fair value hedge contracts. Gains or losses on designated cash
flow hedge contracts are deferred to accumulated other comprehensive income and recognized in the
consolidated statement of operations when the hedged item affects earnings. The Company recognized
expense of $0.9 million during 2005 and earnings of $4.2 million and $4.4 million in 2004 and 2003,
respectively, related to cash flow hedge contracts. As of December 31, 2005, the notional amounts
of fair value hedge contracts and cash flow hedge contracts outstanding were $99.8 million and
$40.4 million, respectively, and the fair value was less than the notional amount of these
contracts by $1.7 million. As of December 31, 2004, the notional amount of fair value hedge
contracts outstanding was $99.6 million, approximating the fair value of these contracts, and there
were no cash flow hedge contracts outstanding.
Fair Value of Other Financial Instruments
The recorded and fair values of long-term debt at December 31 are as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
2004 |
| |
|
Recorded |
|
Fair |
|
Recorded |
|
Fair |
| |
|
Value |
|
Value |
|
Value |
|
Value |
Long-term Debt |
|
$ |
622,333 |
|
|
$ |
646,013 |
|
|
$ |
491,969 |
|
|
$ |
531,302 |
|
The fair value of publicly-traded long-term debt was primarily determined using quoted market
prices. The fair value of the remaining financial instruments, including cash and cash
equivalents, receivables, payables and short-term and bank borrowings, approximates the carrying
value due to the nature of these instruments.
40
10. Income Taxes
The geographical sources of income before income taxes, minority interests and cumulative
effect of change in accounting principle for the three years ended December 31, 2005 were as
follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Income before income taxes, minority interests and
cumulative effect of change in accounting principle: |
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
$ |
225,207 |
|
|
$ |
119,770 |
|
|
$ |
62,984 |
|
Non-United States |
|
|
402,600 |
|
|
|
281,532 |
|
|
|
226,772 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
627,807 |
|
|
$ |
401,302 |
|
|
$ |
289,756 |
|
|
|
|
|
|
|
|
|
|
|
The income tax provision is summarized as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Current: |
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
$ |
62,243 |
|
|
$ |
47,651 |
|
|
$ |
22,604 |
|
Non-United States |
|
|
124,881 |
|
|
|
82,781 |
|
|
|
61,440 |
|
State |
|
|
4,983 |
|
|
|
1,053 |
|
|
|
1,136 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
192,107 |
|
|
|
131,485 |
|
|
|
85,180 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred: |
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
|
8,073 |
|
|
|
(2,116 |
) |
|
|
756 |
|
Non-United States |
|
|
2,349 |
|
|
|
925 |
|
|
|
7,398 |
|
State |
|
|
214 |
|
|
|
(573 |
) |
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10,636 |
|
|
|
(1,764 |
) |
|
|
8,154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax provision |
|
$ |
202,743 |
|
|
$ |
129,721 |
|
|
$ |
93,334 |
|
|
|
|
|
|
|
|
|
|
|
The consolidated effective tax rate (as a percentage of income before income taxes, minority
interests and cumulative effect of change in accounting principle) is reconciled to the U.S.
federal statutory tax rate as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
U.S. federal statutory tax rate |
|
|
35.0 |
% |
|
|
35.0 |
% |
|
|
35.0 |
% |
Minority partners’ share of U.S. partnership earnings |
|
|
(2.5 |
) |
|
|
(2.9 |
) |
|
|
(3.1 |
) |
Non-deductible expenses |
|
|
1.1 |
|
|
|
1.0 |
|
|
|
1.1 |
|
Benefit of extraterritorial income exclusion and
manufacturer’s production exclusion |
|
|
(0.8 |
) |
|
|
(0.7 |
) |
|
|
(0.7 |
) |
State taxes, net |
|
|
0.8 |
|
|
|
0.1 |
|
|
|
0.6 |
|
Non-U.S. tax provisions which vary from the U.S.
rate/non-U.S. losses with no tax benefit realized |
|
|
(0.9 |
) |
|
|
(0.6 |
) |
|
|
0.8 |
|
Change in valuation allowance |
|
|
(0.1 |
) |
|
|
(0.2 |
) |
|
|
(1.3 |
) |
Other items, net |
|
|
(0.3 |
) |
|
|
0.6 |
|
|
|
(0.2 |
) |
|
|
|
|
|
|
|
|
|
|
Effective tax rate |
|
|
32.3 |
% |
|
|
32.3 |
% |
|
|
32.2 |
% |
|
|
|
|
|
|
|
|
|
|
41
The components of deferred taxes at December 31 are as follows:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Deferred tax liabilities attributed to the excess of net book
basis over remaining tax basis (principally depreciation
and amortization): |
|
|
|
|
|
|
|
|
United States |
|
$ |
(85,724 |
) |
|
$ |
(73,118 |
) |
Non-United States |
|
|
(55,691 |
) |
|
|
(49,795 |
) |
|
|
|
|
|
|
|
Total deferred tax liabilities |
|
|
(141,415 |
) |
|
|
(122,913 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets attributed to net operating loss and tax
credit carryforwards: |
|
|
|
|
|
|
|
|
United States |
|
|
651 |
|
|
|
1,110 |
|
Non-United States |
|
|
14,181 |
|
|
|
15,317 |
|
|
|
|
|
|
|
|
|
|
Other deferred tax assets (principally accrued liabilities
not deductible until paid and inventory reserves): |
|
|
|
|
|
|
|
|
United States |
|
|
67,201 |
|
|
|
61,157 |
|
Non-United States |
|
|
9,081 |
|
|
|
7,872 |
|
|
|
|
|
|
|
|
Subtotal |
|
|
91,114 |
|
|
|
85,456 |
|
|
|
|
|
|
|
|
|
|
Valuation allowance |
|
|
(12,948 |
) |
|
|
(15,068 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total deferred tax assets |
|
|
78,166 |
|
|
|
70,388 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net deferred tax liabilities |
|
$ |
(63,249 |
) |
|
$ |
(52,525 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance sheet presentation: |
|
|
|
|
|
|
|
|
Deferred tax assets, net |
|
$ |
48,467 |
|
|
$ |
47,083 |
|
Other assets |
|
|
4,649 |
|
|
|
3,459 |
|
Income taxes payable |
|
|
(8,527 |
) |
|
|
(9,290 |
) |
Deferred tax liabilities |
|
|
(107,838 |
) |
|
|
(93,777 |
) |
|
|
|
|
|
|
|
Net deferred tax liabilities |
|
$ |
(63,249 |
) |
|
$ |
(52,525 |
) |
|
|
|
|
|
|
|
At December 31, 2005, the accompanying consolidated financial statements include $14.2 million
of deferred tax assets associated with operating loss carryforwards in tax jurisdictions outside
the United States. Although a significant portion of these losses will carryforward indefinitely
and are available to reduce future tax liabilities of the respective foreign entity, management
currently believes that the majority of these assets will not be realized and has, accordingly,
established a $12.9 million valuation reserve. The $2.1 million decline from the prior year-end
valuation reserve reflects the impact of changes in currency exchange rates, the expiration of
operating loss carryforwards and changes in the anticipated realizability of certain foreign
deferred tax assets.
The Company has provided additional taxes for the anticipated repatriation of certain earnings
of its non-U.S. subsidiaries. Undistributed earnings above the amounts upon which additional taxes
have been provided, which approximated $231.3 million at December 31, 2005, are intended to be
permanently invested by the Company. It is not practicable to determine the amount of applicable
taxes that would be incurred if any of such earnings were repatriated.
The American Jobs Creation Act of 2004 (the “Act”), which was enacted during the fourth
quarter of 2004, created a temporary incentive for U.S. corporations to repatriate accumulated
earnings of non-U.S. subsidiaries by providing an 85 percent deduction for certain dividends from
controlled foreign corporations. During the fourth quarter of 2005, the Company completed its
evaluation of the provisions of the new tax law and potential repatriations. Approximately $18.9
million of non-U.S. earnings were repatriated pursuant to the Act, resulting in the recognition of
net tax benefits totaling $1.0 million in 2005.
42
11. Stockholders’ Equity
Dividend Program
On February 2, 2005, the Company’s Board of Directors approved a cash dividend program for
stockholders and declared a quarterly cash dividend of $0.06 per share. The Board of Directors
declared dividends of $48.4 million and distributed cash dividends of $36.4 million during 2005.
On
March 1, 2006, the Company’s Board of Directors approved an increase in the
quarterly cash dividend to $0.08 per share, beginning with the distribution payable April 14, 2006
to stockholders of record on March 15, 2006. 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 cash flow from operations, the level of its capital expenditures, compliance with
certain debt covenants, its future business prospects and other factors that the Board of Directors
deems relevant.
Stock Split
On July 21, 2005, the Company’s Board of Directors approved a two-for-one stock split, which
was effected in the form of a stock dividend. Stockholders of record as of August 5, 2005 were
entitled to the dividend, which was distributed on August 24, 2005.
Common Stock Repurchases
Under its share repurchase programs, the Company has purchased $117.8 million and $92.0
million of common stock during 2005 and 2004, respectively. 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.
In October 2005, the Company completed a previously announced share repurchase program. On
October, 20, 2005, the Board of Directors approved a new repurchase program that allows for the
purchase of up to 20 million shares of the Company’s common stock, subject to regulatory issues,
market considerations and other relevant factors. Future repurchases under the program may be
executed from time to time in the open market or in privately negotiated transactions.
Stockholder Rights Plan
On June 8, 2000, the Company adopted a Stockholder Rights Plan (the “Rights Plan”). As part
of the Rights Plan, the Company’s Board of Directors declared a dividend of one junior
participating preferred stock purchase right (“Right”) for each share of the Company’s common stock
outstanding on June 20, 2000. The Board also authorized the issuance of one such Right for each
share of the Company’s common stock issued after June 20, 2000 until the occurrence of certain
events.
The Rights are exercisable upon the occurrence of certain events related to a person (an
“Acquiring Person’) acquiring or announcing the intention to acquire beneficial ownership of 20
percent or more of the Company’s common stock. In the event any person becomes an Acquiring Person,
each holder (except an Acquiring Person) will be entitled to purchase, at an effective exercise
price of $87.50, subject to adjustment, shares of common stock having a market value of twice the
Right’s exercise price. The Acquiring Person will not be entitled to exercise these Rights. In
addition, if at any time after a person has become an Acquiring Person, the Company is involved in
a merger or other business combination transaction, or sells 50 percent or more of its assets or
earning power to another entity, each Right will entitle its holder to purchase, at an effective
exercise price of $87.50, subject to adjustment, shares of common stock of such other entity having
a value of twice the Right’s exercise price. After a person or group becomes an Acquiring Person,
but before an Acquiring Person owns 50% or more of the Company’s common stock, the Board may
extinguish the Rights by exchanging one share of common stock, or an equivalent security, for each
Right, other than Rights held by the Acquiring Person.
In the event the Rights become exercisable and sufficient shares of the Company’s common stock
are not authorized to permit the exercise of all outstanding Rights, the Company is required under
the Rights Plan to take all necessary action including, if necessary, seeking stockholder approval
to obtain additional authorized shares.
The Rights are subject to redemption at the option of the Board of Directors at a price of
one-quarter of a cent per Right until the occurrence of certain events. The Rights currently trade
with Smith common stock, have no voting or dividend rights and expire on June 8, 2010.
43
Accumulated Other Comprehensive Income
Accumulated other comprehensive income in the accompanying consolidated balance sheets
consists of the following:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Currency translation adjustments |
|
$ |
13,148 |
|
|
$ |
27,783 |
|
Unrealized fair value of derivatives |
|
|
(2,176 |
) |
|
|
(132 |
) |
Pension liability adjustments |
|
|
(4,071 |
) |
|
|
(3,247 |
) |
|
|
|
|
|
|
|
Accumulated other comprehensive income |
|
$ |
6,901 |
|
|
$ |
24,404 |
|
|
|
|
|
|
|
|
Approximately $1.9 million of the unrealized fair value of derivatives is expected to be
recognized as after-tax expense during the fiscal year ending December 31, 2006.
12. Retirement Plans
Defined Contribution Plans
The Company established the Smith International, Inc. 401(k) Retirement Plan (the “Smith
Plan”) for the benefit of all eligible employees. Employees may voluntarily contribute a
percentage of their compensation, as defined, to the Smith Plan. The Company makes basic,
retirement and, in certain cases, discretionary matching contributions to each participant’s
account under the Smith Plan. Participants receive a basic match on contributions to the Smith
Plan of up to 11/2 percent of qualified compensation and a retirement contribution ranging from two
percent to six percent of qualified compensation. In addition, the Board of Directors may provide
discretionary profit-sharing contributions based upon financial performance to participants who are
employed by the Company on December 31.
Through September 30, 2004, eligible employees of Wilson International, Inc. (the “Wilson
employees”) participated in the Smith Plan. Effective October 1, 2004, the Company established the
Wilson 401(k) Retirement Plan (the “Wilson Plan”) and transferred account balances of the Wilson
employees into this plan from the Smith Plan. Employees may voluntarily contribute a percentage of
their compensation, as defined, to the Wilson Plan. Wilson makes matching contributions to each
participant’s account ranging from 1/4 percent to six percent of qualified compensation. In
addition, the Board of Directors may provide discretionary profit-sharing contributions based upon
financial performance to participants who are employed by Wilson on December 31.
M-I SWACO has a company Profit-Sharing and Savings Plan (the “M-I Retirement Plan”) under
which participating employees may voluntarily contribute a percentage of their compensation, as
defined. At its discretion, M-I SWACO may make basic, matching and in certain cases, discretionary
matching contributions to each participant’s account under the M-I Retirement Plan. Participants
are eligible to receive a basic contribution equal to three percent of qualified compensation, and
a full match on employee contributions of up to 11/2 percent of qualified compensation. In addition,
the Board of Directors may provide discretionary profit-sharing contributions based upon financial
performance to participants who are employed by M-I SWACO on December 31.
The Company recognized expense totaling $37.8 million, $34.0 million and $25.0 million in
2005, 2004 and 2003, respectively, related to Company contributions to the plans.
Certain of the Company’s subsidiaries sponsor various defined contribution plans. The
Company’s contributions under these plans for each of the three years in the period ended December
31, 2005, were immaterial.
Deferred Compensation Plan
The Company maintains a Supplemental Executive Retirement Plan (“SERP”), a non-qualified,
deferred compensation program, for the benefit of officers and certain other eligible employees of
the Company. Participants may contribute, on a pre-tax basis, maximum amounts ranging from 50
percent to 100 percent of cash compensation, as defined. Plan provisions allow for retirement and
matching contributions, similar to those provided under the Company’s defined contribution programs, and, in certain cases, an interest contribution in order to provide a
yield on short-term investments equal to 120 percent of the long-term applicable federal rate, as
defined.
In the event of insolvency or bankruptcy, plan assets are available to satisfy the claims of
all general creditors of the Company. Accordingly, the accompanying consolidated balance sheets
reflect the aggregate participant balances as both an
44
asset and a liability of the Company. As of
December 31, 2005 and 2004, $50.7 million and $42.0 million, respectively, are included in other
assets with a corresponding amount recorded in other long-term liabilities.
During the years ended December 31, 2005, 2004 and 2003, Company contributions to the plan
totaled $2.5 million, $2.6 million and $2.4 million, respectively.
13. Employee Benefit Plans
The Company currently maintains various defined benefit pension plans covering certain U.S.
and non-U.S. employees. Future benefit accruals and the addition of new participants under the
U.S. plans were frozen prior to 1998.
The Company and certain subsidiaries have postretirement benefit plans which provide health
care benefits to a limited number of current, and in certain cases, future retirees. Individuals
who elect to contribute premiums are eligible to participate in the Company’s medical and
prescription drug programs, with certain limitations. In addition to premiums, the retiree is
responsible for deductibles and any required co-payments and is subject to annual and lifetime
dollar spending caps.
The following tables disclose the changes in benefit obligations and plan assets during the
periods presented and reconcile the funded status of the plans to the amounts included in the
accompanying consolidated balance sheets:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Pension Plans |
|
|
Postretirement Benefit Plans |
|
| |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Changes in benefit obligations: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefit obligations at beginning of year |
|
$ |
41,569 |
|
|
$ |
35,701 |
|
|
$ |
10,742 |
|
|
$ |
11,160 |
|
Service cost |
|
|
2,787 |
|
|
|
2,355 |
|
|
|
242 |
|
|
|
233 |
|
Interest cost |
|
|
2,142 |
|
|
|
2,181 |
|
|
|
548 |
|
|
|
643 |
|
Plan participants’ contributions |
|
|
— |
|
|
|
54 |
|
|
|
692 |
|
|
|
790 |
|
Actuarial loss (gain) |
|
|
1,092 |
|
|
|
2,394 |
|
|
|
(96 |
) |
|
|
(929 |
) |
Plan termination |
|
|
— |
|
|
|
— |
|
|
|
(1,215 |
) |
|
|
— |
|
Benefits paid |
|
|
(959 |
) |
|
|
(1,116 |
) |
|
|
(843 |
) |
|
|
(1,155 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefit obligations at end of year |
|
$ |
46,631 |
|
|
$ |
41,569 |
|
|
$ |
10,070 |
|
|
$ |
10,742 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes in plan assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value of plan assets at beginning of year |
|
$ |
34,932 |
|
|
$ |
28,771 |
|
|
$ |
— |
|
|
$ |
— |
|
Actual return on plan assets |
|
|
2,009 |
|
|
|
3,686 |
|
|
|
— |
|
|
|
— |
|
Employer contributions |
|
|
3,011 |
|
|
|
3,537 |
|
|
|
151 |
|
|
|
365 |
|
Plan participants’ contributions |
|
|
— |
|
|
|
54 |
|
|
|
692 |
|
|
|
790 |
|
Benefits paid |
|
|
(959 |
) |
|
|
(1,116 |
) |
|
|
(843 |
) |
|
|
(1,155 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value of plan assets at end of year |
|
$ |
38,993 |
|
|
$ |
34,932 |
|
|
$ |
— |
|
|
$ |
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Funded status |
|
$ |
(7,638 |
) |
|
$ |
(6,637 |
) |
|
$ |
(10,070 |
) |
|
$ |
(10,742 |
) |
Unrecognized net actuarial loss (gain) |
|
|
8,647 |
|
|
|
7,028 |
|
|
|
(2,321 |
) |
|
|
(4,148 |
) |
Unrecognized prior service cost |
|
|
43 |
|
|
|
(77 |
) |
|
|
— |
|
|
|
(1,551 |
) |
Unrecognized net transition obligation |
|
|
— |
|
|
|
44 |
|
|
|
— |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net prepaid benefit (accrued liability) |
|
$ |
1,052 |
|
|
$ |
358 |
|
|
$ |
(12,391 |
) |
|
$ |
(16,441 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
The net prepaid benefit associated with the Pension Plans is reflected in the accompanying
consolidated balance sheets in the following captions:
| |
|
|
|
|
|
|
|
|
|
Prepaid expenses and other |
|
$ |
— |
|
|
$ |
2,221 |
|
|
Other long-term liabilities |
|
|
(4,638 |
) |
|
|
(6,286 |
) |
|
Deferred taxes |
|
|
1,619 |
|
|
|
1,176 |
|
|
Accumulated other comprehensive income |
|
|
4,071 |
|
|
|
3,247 |
|
|
|
|
|
|
|
|
|
|
Net amount recognized |
|
$ |
1,052 |
|
|
$ |
358 |
|
|
|
|
|
|
|
|
|
|
Accrued liabilities associated with the Postretirement Benefit Plans, which totaled $12.4
million and $16.4 million as of December 31, 2005 and 2004, respectively, are reflected in the
accompanying consolidated balance sheets as other long-term liabilities.
45
Net Periodic Benefit Expense
Net periodic benefit expense and the weighted average assumptions used to determine the net
benefit expense for the fiscal years ended December 31 and the projected benefit obligation at
December 31 are as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Pension Plans |
|
|
Postretirement Benefit Plans |
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Components of net periodic benefit expense: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service cost |
|
$ |
2,787 |
|
|
$ |
2,355 |
|
|
$ |
1,889 |
|
|
$ |
242 |
|
|
$ |
233 |
|
|
$ |
219 |
|
Interest cost |
|
|
2,142 |
|
|
|
2,181 |
|
|
|
1,934 |
|
|
|
548 |
|
|
|
643 |
|
|
|
685 |
|
Return on plan assets |
|
|
(2,292 |
) |
|
|
(2,050 |
) |
|
|
(1,701 |
) |
|
|
— |
|
|
|
— |
|
|
|
— |
|
Amortization of prior service cost |
|
|
11 |
|
|
|
82 |
|
|
|
118 |
|
|
|
(91 |
) |
|
|
(365 |
) |
|
|
(365 |
) |
Amortization of loss (gain) |
|
|
706 |
|
|
|
355 |
|
|
|
275 |
|
|
|
(130 |
) |
|
|
(172 |
) |
|
|
(251 |
) |
Plan termination |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
(4,467 |
) |
|
|
— |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net periodic benefit expense (income) |
|
$ |
3,354 |
|
|
$ |
2,923 |
|
|
$ |
2,515 |
|
|
$ |
(3,898 |
) |
|
$ |
339 |
|
|
$ |
288 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net periodic benefit expense: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Discount rate |
|
|
5.75 |
% |
|
|
6.00 |
% |
|
|
6.75 |
% |
|
|
5.75 |
% |
|
|
6.00 |
% |
|
|
6.75 |
% |
Expected return on plan assets |
|
|
8.50 |
% |
|
|
8.50 |
% |
|
|
8.50 |
% |
|
|
N/A |
|
|
|
N/A |
|
|
|
N/A |
|
Projected benefit obligation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Discount rate |
|
|
5.50 |
% |
|
|
5.75 |
% |
|
|
6.00 |
% |
|
|
5.50 |
% |
|
|
5.75 |
% |
|
|
6.00 |
% |
Expected return on plan assets |
|
|
8.50 |
% |
|
|
8.50 |
% |
|
|
8.50 |
% |
|
|
N/A |
|
|
|
N/A |
|
|
|
N/A |
|
Additional Pension Plan Information
In determining the expected return on plan assets, the Company considers the investment mix,
the historical market performance and economic and other indicators of future performance. The
Company primarily utilizes a mix of common stock and fixed income index funds to generate asset
returns comparable with the general market. The investment mix of pension assets at December 31 is
summarized in the following table:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
Common stock and related index funds |
|
|
46 |
% |
|
|
43 |
% |
Fixed income securities and related index funds |
|
|
41 |
|
|
|
33 |
|
Real estate |
|
|
6 |
|
|
|
4 |
|
Money market funds |
|
|
7 |
|
|
|
20 |
|
|
|
|
|
|
|
|
Total |
|
|
100 |
% |
|
|
100 |
% |
|
|
|
|
|
|
|
For pension plans with accumulated benefit obligations in excess of plan assets, the following
table sets forth the projected and accumulated benefit obligations and the fair value of plan
assets at December 31:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
2004 |
Projected benefit obligation |
|
$ |
46,631 |
|
|
$ |
41,569 |
|
Accumulated benefit obligation |
|
|
46,631 |
|
|
|
41,569 |
|
Plan assets at fair value |
|
|
38,993 |
|
|
|
34,932 |
|
Estimated future benefit payments based on projected future service are expected to range
between $0.8 million and $1.1 million a year for the next five years and approximate $7.2 million
for the five-year period ending December 31, 2015. Company contributions to the pension plans
during 2006 are expected to be comparable to the $3.0 million contributed in 2005.
Additional Postretirement Benefit Plan Information
The assumed health care cost trend rates used to determine the projected postretirement
benefit obligation at December 31 are as follows:
| |
|
|
|
|
|
|
|
|
| |
|
2005 |
|
2004 |
Health care cost trend rate for current year |
|
|
10 |
% |
|
|
10 |
% |
Rate that the cost trend rate gradually declines (ultimate trend rate) |
|
|
5 |
% |
|
|
5 |
% |
Year that the rate reaches the ultimate trend rate |
|
|
2010 |
|
|
|
2009 |
|
46
A one-percentage point change in assumed health care cost trend rates would have the following
effects on the benefit obligations and the aggregate of the service and interest cost components of
the postretirement benefits expense:
| |
|
|
|
|
|
|
|
|
| |
|
One- |
|
One- |
| |
|
Percentage- |
|
Percentage- |
| |
|
Point Increase |
|
Point Decrease |
Effect on total service and interest cost |
|
$ |
35 |
|
|
$ |
(83 |
) |
Effect on accumulated postretirement benefit obligation |
|
|
247 |
|
|
|
(788 |
) |
Estimated future benefit payments based on projected future service are expected to range
between $0.5 million and $0.7 million a year for the next five years and approximate $3.4 million
for the five-year period ending December 31, 2015. Company contributions to the postretirement
benefit plans during 2006 are expected to be comparable to the $0.2 million contributed in 2005.
14. Long-Term Incentive Compensation
The Company maintains a long-term incentive compensation program for the benefit of key
employees. The program provides for the issuance of restricted stock awards and, prior to December
2005, stock option awards.
Restricted Stock
The restricted stock program consists of a combination of performance-based restricted stock
units (“performance-based units”) and time-based restricted stock units (“time-based units”). The
number of performance-based units issued under the program, which can range from zero to 115
percent of the target units granted, is solely dependent upon the return on equity achieved by the
Company in the fiscal year subsequent to the award. Estimated compensation expense for the
performance-based units, calculated as the difference between the market value and the exercise
price, is recognized over the three-year vesting period. Compensation expense related to
time-based units is recognized over a four-year period.
Compensation expense related to restricted stock awards totaled $5.7 million, $0.3 million and
$0.5 million for the years ended December 31, 2005, 2004 and 2003, respectively. Restrictions on
approximately 230,000 performance-based units and 60,000 time-based units outstanding at December
31, 2005 are expected to lapse during the 2006 fiscal year.
A summary of the Company’s restricted stock program is presented below:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Time- |
|
|
Performance- |
|
|
Total |
|
| |
|
Based |
|
|
Based |
|
|
Restricted |
|
| |
|
Units |
|
|
Units |
|
|
Stock Units |
|
Outstanding at December 31, 2002 |
|
|
85,000 |
|
|
|
— |
|
|
|
85,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
— |
|
|
|
— |
|
|
|
— |
|
Forfeited |
|
|
(4,000 |
) |
|
|
— |
|
|
|
(4,000 |
) |
Vested |
|
|
(16,000 |
) |
|
|
— |
|
|
|
(16,000 |
) |
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2003 |
|
|
65,000 |
|
|
|
— |
|
|
|
65,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted(a) |
|
|
80,208 |
|
|
|
— |
|
|
|
80,208 |
|
Forfeited |
|
|
(2,000 |
) |
|
|
— |
|
|
|
(2,000 |
) |
Vested |
|
|
(32,000 |
) |
|
|
— |
|
|
|
(32,000 |
) |
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2004 |
|
|
111,208 |
|
|
|
— |
|
|
|
111,208 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted(b) |
|
|
165,624 |
|
|
|
1,161,160 |
|
|
|
1,326,784 |
|
Forfeited |
|
|
(2,860 |
) |
|
|
(17,368 |
) |
|
|
(20,228 |
) |
Vested |
|
|
(34,632 |
) |
|
|
— |
|
|
|
(34,632 |
) |
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2005 |
|
|
239,340 |
|
|
|
1,143,792 |
|
|
|
1,383,132 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| (a) |
|
Market value of $28.13 per unit at date of grant. |
| |
| (b) |
|
Weighted-average market value of $38.32 per time-based unit and $36.46 per
performance-based unit, respectively, at date of grant. |
47
Stock Options
Stock 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. A summary of the Company’s stock
option program is presented below.
| |
|
|
|
|
|
|
|
|
| |
|
Shares |
|
|
Weighted Average |
|
| |
|
Under Option |
|
|
Exercise Price |
|
Outstanding at December 31, 2002 |
|
|
12,455,528 |
|
|
$ |
12.52 |
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
2,094,000 |
|
|
|
19.41 |
|
Forfeited |
|
|
(76,392 |
) |
|
|
14.89 |
|
Exercised |
|
|
(2,323,128 |
) |
|
|
9.51 |
|
|
|
|
|
|
|
|
Outstanding at December 31, 2003 |
|
|
12,150,008 |
|
|
|
14.27 |
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
380,512 |
|
|
|
28.13 |
|
Forfeited |
|
|
(159,682 |
) |
|
|
17.34 |
|
Exercised |
|
|
(5,111,158 |
) |
|
|
11.41 |
|
|
|
|
|
|
|
|
Outstanding at December 31, 2004 |
|
|
7,259,680 |
|
|
|
16.93 |
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
173,804 |
|
|
|
29.03 |
|
Forfeited |
|
|
(52,236 |
) |
|
|
17.80 |
|
Exercised |
|
|
(2,629,424 |
) |
|
|
15.13 |
|
|
|
|
|
|
|
|
Outstanding at December 31, 2005 |
|
|
4,751,824 |
|
|
$ |
18.37 |
|
|
|
|
|
|
|
|
The number of outstanding fixed stock options exercisable at December 31, 2004 and 2003 was
3,887,630 and 6,523,632, respectively. These options had a weighted average exercise price of
$15.21 and $12.15 at December 31, 2004 and 2003, respectively. The following summarizes
information about fixed stock options outstanding at December 31, 2005:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Options Outstanding |
|
|
|
|
|
Options Exercisable |
| |
|
|
|
|
|
Weighted |
|
Weighted |
|
|
|
|
|
Weighted |
| |
|
|
|
|
|
Average |
|
Average |
|
|
|
|
|
Average |
| Range of |
|
Number |
|
Remaining |
|
Exercise |
|
Number |
|
Exercise |
| Exercise Prices |
|
Outstanding |
|
Contractual Life |
|
Price |
|
Exercisable |
|
Price |
$ 5.89 - $9.80
|
|
|
87,160 |
|
|
|
3.7 |
|
|
$ |
8.79 |
|
|
|
87,160 |
|
|
$ |
8.79 |
|
$10.28 - $11.75
|
|
|
677,900 |
|
|
|
5.9 |
|
|
|
11.74 |
|
|
|
677,900 |
|
|
|
11.74 |
|
$15.38 - $19.41
|
|
|
3,428,670 |
|
|
|
7.3 |
|
|
|
18.29 |
|
|
|
1,805,938 |
|
|
|
17.98 |
|
$25.96 - $30.80
|
|
|
558,094 |
|
|
|
9.0 |
|
|
|
28.36 |
|
|
|
133,270 |
|
|
|
28.37 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,751,824 |
|
|
|
7.2 |
|
|
$ |
18.37 |
|
|
|
2,704,268 |
|
|
$ |
16.63 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The pro forma net income and earnings per share data disclosed in Note 1 has been determined
as if the Company had accounted for its employee stock-based compensation program under the fair
value method of SFAS No. 123. The Company used an open form (lattice) model to determine the fair
value of options granted during 2004 and 2005, and accordingly, calculate the stock-based compensation expense. The Black-Scholes method was used to
calculate the fair value of options granted in 2003. The fair value and assumptions used are as
follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
2004 |
|
2003 |
Fair value of stock options granted |
|
$ |
17.26 |
|
|
$ |
17.84 |
|
|
$ |
13.02 |
|
Expected life of option (years) |
|
|
5.0 |
|
|
|
5.0 |
|
|
|
5.0 |
|
Expected stock volatility |
|
|
31.0 |
% |
|
|
31.0 |
% |
|
|
31.0 |
% |
Expected dividend yield |
|
|
0.8 |
% |
|
|
N/A |
|
|
|
N/A |
|
Risk-free interest rate |
|
|
3.9 |
% |
|
|
3.6 |
% |
|
|
3.5 |
% |
Share-based Compensation Expense
In 2006, share-based compensation expense, consisting of restricted stock and stock option
awards, is expected to total $26 million and, net of taxes and minority interests, is expected to
approximate $15 million.
48
15. Industry Segments and International 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 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, which provides drilling and completion fluid systems and services, solids-control and
separation equipment, waste-management services and oilfield production chemicals; Smith
Technologies, which designs, manufactures and sells three-cone drill bits, diamond drill bits and
turbine products; and Smith Services, which manufactures and markets products and services used for
drilling, workover, well completion and well re-entry operations. The principal markets for the
Oilfield segment include all major oil and gas-producing regions of the world, with approximately
57 percent of revenues generated in markets outside of North America. Oilfield segment customers
primarily include major multi-national, independent and national, or state-owned, oil companies.
The Distribution segment consists of one business unit, Wilson, which markets pipe, valves,
fittings and mill, safety and other maintenance products to energy and industrial markets. The
Distribution segment has the most significant North American exposure of any of the Company’s
operations with approximately 95 percent of revenues derived in the United States and Canada.
Approximately two-thirds of Wilson’s revenues are generated from customers in the energy sector,
which includes major multi-national and independent oil companies, pipeline companies and contract
drilling companies. The remainder relates to sales in the downstream and industrial markets, which
primarily includes refineries, petrochemical and power generation plants.
The Company’s revenues are derived principally from uncollateralized customer sales. The
significant energy industry concentration has the potential to impact the Company’s exposure to
credit risk, either positively or negatively, because customers may be similarly affected by
changes in economic or other conditions. The creditworthiness of the Company’s customer base is
strong, with limited credit losses experienced on such receivables.
The following table presents financial information for each reportable segment:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
3,978,999 |
|
|
$ |
3,236,339 |
|
|
$ |
2,678,274 |
|
Distribution |
|
|
1,600,004 |
|
|
|
1,182,676 |
|
|
|
916,554 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
5,579,003 |
|
|
$ |
4,419,015 |
|
|
$ |
3,594,828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Income (Loss): |
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
625,384 |
|
|
$ |
423,648 |
|
|
$ |
343,486 |
|
Distribution |
|
|
64,714 |
|
|
|
26,513 |
|
|
|
(7,897 |
) |
General corporate |
|
|
(19,537 |
) |
|
|
(11,397 |
) |
|
|
(6,842 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
$ |
670,561 |
|
|
$ |
438,764 |
|
|
$ |
328,747 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital Expenditures: |
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
173,510 |
|
|
$ |
108,773 |
|
|
$ |
96,458 |
|
Distribution |
|
|
2,354 |
|
|
|
2,428 |
|
|
|
2,009 |
|
General corporate |
|
|
1,981 |
|
|
|
248 |
|
|
|
456 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
177,845 |
|
|
$ |
111,449 |
|
|
$ |
98,923 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and Amortization: |
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
110,160 |
|
|
$ |
98,258 |
|
|
$ |
93,541 |
|
Distribution |
|
|
6,435 |
|
|
|
7,209 |
|
|
|
6,913 |
|
General corporate |
|
|
1,127 |
|
|
|
1,026 |
|
|
|
1,255 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
117,722 |
|
|
$ |
106,493 |
|
|
$ |
101,709 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets: |
|
|
|
|
|
|
|
|
|
|
|
|
Oilfield Products and Services |
|
$ |
3,356,112 |
|
|
$ |
2,905,850 |
|
|
$ |
2,604,176 |
|
Distribution |
|
|
596,867 |
|
|
|
493,434 |
|
|
|
405,413 |
|
General corporate |
|
|
106,935 |
|
|
|
107,494 |
|
|
|
87,458 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
4,059,914 |
|
|
$ |
3,506,778 |
|
|
$ |
3,097,047 |
|
|
|
|
|
|
|
|
|
|
|
49
The following table presents consolidated revenues by region:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
United States |
|
$ |
2,520,706 |
|
|
$ |
1,982,467 |
|
|
$ |
1,592,243 |
|
Canada |
|
|
713,565 |
|
|
|
487,552 |
|
|
|
362,874 |
|
|
|
|
|
|
|
|
|
|
|
North America |
|
|
3,234,271 |
|
|
|
2,470,019 |
|
|
|
1,955,117 |
|
|
|
|
|
|
|
|
|
|
|
Latin America |
|
|
452,349 |
|
|
|
424,053 |
|
|
|
344,283 |
|
Europe/Africa |
|
|
1,188,038 |
|
|
|
961,755 |
|
|
|
855,916 |
|
Middle East |
|
|
476,686 |
|
|
|
366,114 |
|
|
|
302,872 |
|
Far East |
|
|
227,659 |
|
|
|
197,074 |
|
|
|
136,640 |
|
|
|
|
|
|
|
|
|
|
|
Non-North America |
|
|
2,344,732 |
|
|
|
1,948,996 |
|
|
|
1,639,711 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
5,579,003 |
|
|
$ |
4,419,015 |
|
|
$ |
3,594,828 |
|
|
|
|
|
|
|
|
|
|
|
The following table presents net property, plant and equipment by region:
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
2003 |
|
United States |
|
$ |
353,370 |
|
|
$ |
306,505 |
|
|
$ |
295,243 |
|
Canada |
|
|
43,908 |
|
|
|
34,603 |
|
|
|
29,918 |
|
|
|
|
|
|
|
|
|
|
|
North America |
|
|
397,278 |
|
|
|
341,108 |
|
|
|
325,161 |
|
|
|
|
|
|
|
|
|
|
|
Latin America |
|
|
53,911 |
|
|
|
50,208 |
|
|
|
51,831 |
|
Europe/Africa |
|
|
156,632 |
|
|
|
133,290 |
|
|
|
107,347 |
|
Middle East |
|
|
33,548 |
|
|
|
32,920 |
|
|
|
32,364 |
|
Far East |
|
|
24,020 |
|
|
|
19,428 |
|
|
|
18,168 |
|
|
|
|
|
|
|
|
|
|
|
Non-North America |
|
|
268,111 |
|
|
|
235,846 |
|
|
|
209,710 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
665,389 |
|
|
$ |
576,954 |
|
|
$ |
534,871 |
|
|
|
|
|
|
|
|
|
|
|
The Company’s expenditures for research and engineering activities are attributable to the
Company’s Oilfield Products and Services segment and totaled $73.6 million in 2005, $67.2 million
in 2004 and $55.6 million in 2003.
16. Commitments and Contingencies
Leases
The Company routinely enters into operating and capital leases for certain of its facilities
and equipment. Amounts related to assets under capital lease were immaterial for the periods
presented. Rent expense totaled $102.1 million, $94.8 million and $79.0 million in 2005, 2004 and
2003, respectively.
Future minimum payments under non-cancelable operating leases having initial terms of one year
or more are as follows:
| |
|
|
|
|
| |
|
Amount |
|
2006 |
|
$ |
46,883 |
|
2007 |
|
|
35,455 |
|
2008 |
|
|
25,479 |
|
2009 |
|
|
17,400 |
|
2010 |
|
|
11,282 |
|
2011-2015 |
|
|
33,031 |
|
Thereafter |
|
|
10,239 |
|
|
|
|
|
|
|
$ |
179,769 |
|
|
|
|
|
In the normal course of business, the Company enters into lease agreements with cancellation
provisions as well as agreements with initial terms of less than one year. The costs related to
these leases have been reflected in rent expense but have been appropriately excluded from the
future minimum payments presented above.
50
Standby Letters of Credit
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 which
reinsure certain liability coverages of the Company’s insurance captive. Excluding the impact of
these instruments, for which $19.5 million of related liabilities are reflected in the accompanying
consolidated balance sheet, the Company was contingently liable for approximately $49.8 million of
standby letters of credit and bid, performance and surety bonds at December 31, 2005. Management
does not expect any material amounts to be drawn on these instruments.
Insurance
The Company maintains insurance coverage for various aspects of its business and operations.
The Company has elected to retain a portion of losses that occur through the use of deductibles and
retentions under its insurance programs. Amounts in excess of the self-insured retention levels
are fully insured to limits believed appropriate for the Company’s operations. Self-insurance
accruals are based on claims filed and an estimate for claims incurred but not reported. While
management believes that amounts accrued in the accompanying consolidated financial statements are
adequate for expected liabilities arising from the Company’s portion of losses, estimates of these
liabilities may change as circumstances develop.
Litigation
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 appealed the
verdict and does not anticipate a ruling until the third 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 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 December 31, 2005, the Company’s environmental reserve totaled $9.6 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 December 31, 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.
51
During 2003, the Company took legal action against M-I SWACO’s former owners to clarify
certain contractual provisions of the environmental indemnification. Subsequent to December 31,
2005, the two parties reached an agreement in principle whereby M-I SWACO’s former owners
agreed to pay an outstanding receivable owed to the Company, assume
all environmental liabilities associated with two identified sites
and reimburse the Company for certain future environmental
remediation costs.
17. Subsequent Event (Unaudited)
In
February 2006, M-I SWACO acquired Norwegian-based Epcon Offshore AS for cash consideration of $46.4
million. The acquired operations, which provide proprietary technology designed to optimize the
removal of hydrocarbons from produced water, reported revenues of approximately $26.5 million for
the year ended December 31, 2005. The transaction was initially
funded with borrowings under an expanded local credit facility and
will be refinanced with a four-year term note during the first half of
2006.
18. Quarterly Information (Unaudited)
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
First |
|
Second |
|
Third |
|
Fourth |
|
Year |
| |
|
(In thousands, except per share data) |
2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
1,288,198 |
|
|
$ |
1,350,203 |
|
|
$ |
1,410,162 |
|
|
$ |
1,530,440 |
|
|
$ |
5,579,003 |
|
Gross profit |
|
|
385,412 |
|
|
|
399,138 |
|
|
|
424,604 |
|
|
|
475,984 |
|
|
|
1,685,138 |
|
Net income |
|
|
66,152 |
|
|
|
68,060 |
|
|
|
79,504 |
|
|
|
88,589 |
|
|
|
302,305 |
|
EPS: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
0.33 |
|
|
|
0.34 |
|
|
|
0.40 |
|
|
|
0.44 |
|
|
|
1.50 |
|
Diluted |
|
|
0.32 |
|
|
|
0.33 |
|
|
|
0.39 |
|
|
|
0.44 |
|
|
|
1.48 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2004 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
1,017,788 |
|
|
$ |
1,064,450 |
|
|
$ |
1,119,184 |
|
|
$ |
1,217,593 |
|
|
$ |
4,419,015 |
|
Gross profit |
|
|
314,002 |
|
|
|
327,368 |
|
|
|
338,983 |
|
|
|
371,586 |
|
|
|
1,351,939 |
|
Net income |
|
|
44,850 |
|
|
|
27,477 |
|
|
|
51,893 |
|
|
|
58,231 |
|
|
|
182,451 |
|
EPS: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
0.22 |
|
|
|
0.14 |
|
|
|
0.26 |
|
|
|
0.29 |
|
|
|
0.90 |
|
Diluted |
|
|
0.22 |
|
|
|
0.13 |
|
|
|
0.25 |
|
|
|
0.28 |
|
|
|
0.89 |
|
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Evaluation of disclosure 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.
Changes in internal control over financial reporting. There has been no change in the
Company’s internal control over financial reporting during the quarter ended December 31, 2005 that
has materially affected, or is reasonably likely to materially affect, the Company’s internal
controls over financial reporting.
Design and evaluation of internal control over financial reporting. Management’s Report on
Internal Control over Financial Reporting and the Report of the Independent Registered Public
Accounting Firm thereon are set forth in Part II, Item 8 of this report on Form 10-K and are
incorporated herein by reference.
Item 9B. Other Information
None.
52
PART III
Item 10. Directors and Executive Officers of the Registrant
Information concerning the directors is set forth following the caption “PROPOSAL 1: ELECTION
OF DIRECTORS” in the Company’s definitive proxy statement to be filed no later than 120 days after
the end of the fiscal year covered by this Form 10-K (the “Proxy Statement”), which information is
incorporated herein by reference. Information concerning our executive officers and Code of Ethics
are set forth in Item 1 appearing in Part I of this Form 10-K. Information concerning compliance
with Section 16(a) of the Exchange Act is set forth following the caption “Section 16(a) Beneficial
Ownership Reporting Compliance” in the Proxy Statement and is incorporated herein by reference.
Information concerning the Audit Committee of the Company and the audit committee financial
expert is set forth following the caption “Committees of the Board” in the Proxy Statement and is
incorporated herein by reference.
Item 11. Executive Compensation
Information for this item is set forth following the caption “EXECUTIVE COMPENSATION” in the
Company’s Proxy Statement and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information for this item is set forth following the captions “STOCK OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS”, “Stock Ownership of Directors and Executive Officers” and “Equity Compensation
Plan Information” in the Company’s Proxy Statement and is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
Information for this item is set forth following the caption “Certain Relationships and
Related Transactions” in the Company’s Proxy Statement and is incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
Information for this item is set forth following the caption “PROPOSAL 3: RATIFICATION OF
DELOITTE & TOUCHE LLP AS INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM” in the Company’s Proxy
Statement and is incorporated herein by reference.
53
PART IV
Item 15. Exhibits and Financial Statement Schedules
All other schedules have been omitted since the required information is not present or not
present in amounts sufficient to require submission of the schedule or because the information
required is included in the consolidated financial statements or notes thereto.
| (3) |
|
Exhibits |
| |
| |
|
Exhibits designated with an “*” are filed, and with an “**” are furnished, as an exhibit to
this Annual Report on Form 10-K. 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 dated July 26, 2005. Filed as
Exhibit 3.4 to the Company’s report on Form 10-Q for the quarter ended June 30, 2005
and incorporated herein by reference. |
|
|
|
|
|
3.2
|
|
-
|
|
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. |
|
|
|
|
|
4.1
|
|
-
|
|
Rights Agreement, dated as of June 8, 2000, between the Company and First Chicago
Trust Company of New York, as Rights Agent. Filed as Exhibit 4.1 to the Company’s
report on Form 8-A, dated June 15, 2000, and incorporated herein by reference. |
|
|
|
|
|
4.2
|
|
-
|
|
Amendment to Rights Agreement dated June 8, 2000, by and among the Company and First
Chicago Trust Company of New York and effective as of October 1, 2001. Filed as
Exhibit 4.1 to the Company’s report on Form 10-Q for the quarter ended September 30,
2001 and incorporated herein by reference. |
|
|
|
|
|
4.3
|
|
-
|
|
Amendment No. 2 to Rights Agreement by and among the Company and EquiServe Trust
Company, N.A. and effective as of December 31, 2002. Filed as Exhibit 4.3 to the
Company’s report on Form 10-K for the year ended December 31, 2002 and incorporated
herein by reference. |
|
|
|
|
|
4.4
|
|
-
|
|
Form of Indenture between the Company and The Bank of New York, as Trustee. Filed
as Exhibit 4.1 to the Company’s Registration Statement on Form S-3 dated August 22,
1997 and incorporated herein by reference. |
|
|
|
|
|
4.5
|
|
-
|
|
Form of Note. Filed as Exhibit 4.2 to Amendment No. 1 to the Company’s Registration
Statement on Form S-3 dated September 9, 1997 and incorporated herein by reference. |
54
| |
|
|
|
|
4.6
|
|
-
|
|
Form of Note. Filed as Exhibit 4.1 to the Company’s report on Form 8-K dated
February 13, 2001 and incorporated herein by reference. |
|
|
|
|
|
10.1+
|
|
-
|
|
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. |
|
|
|
|
|
10.2+
|
|
-
|
|
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. Filed as Exhibit 10.3 to the Company’s Form 10-Q for the quarter ended June
30, 2005 and incorporated herein by reference. |
|
|
|
|
|
10.3+*
|
|
-
|
|
Smith International, Inc. Form of Nonstatutory Option Agreement as amended to date. |
|
|
|
|
|
10.4+*
|
|
-
|
|
Smith International, Inc. Form of Restricted Stock Unit Agreement as amended to date. |
|
|
|
|
|
10.5+*
|
|
-
|
|
Smith International, Inc. Form of Performance-Based Restricted Stock Unit Agreement
as amended to date. |
|
|
|
|
|
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’s report on Form
8-K dated April 20, 2005 and incorporated herein by reference. |
|
|
|
|
|
10.7+
|
|
-
|
|
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. |
|
|
|
|
|
10.8+
|
|
-
|
|
Smith International, Inc. Supplemental Executive Retirement Plan, as amended to
date. Filed as Exhibit 10.1 to the Company’s report on Form 10-Q for the quarter
ended September 30, 2001 and incorporated herein by reference. |
|
|
|
|
|
10.9+
|
|
-
|
|
Smith International, Inc. Post-2004 Supplemental Executive Retirement Plan. Filed
as Exhibit 10.4 to the Company’s report on Form 8-K dated February 28, 2005 and
incorporated herein by reference. |
|
|
|
|
|
10.10+
|
|
-
|
|
Employment Agreement dated December 10, 1987 between the Company and Douglas L.
Rock. Filed as Exhibit 10.11 to the Company’s report on Form 10-K for the year
ended December 31, 1993 and incorporated herein by reference. |
|
|
|
|
|
10.11+
|
|
-
|
|
Employment Agreement dated January 2, 1991 between the Company and Neal S. Sutton.
Filed as Exhibit 10.11 to the Company’s report on Form 10-K for the year ended
December 31, 1996 and incorporated herein by reference. |
|
|
|
|
|
10.12+
|
|
-
|
|
Employment Agreement dated May 1, 1991 between the Company and Richard A. Werner.
Filed as Exhibit 10.12 to the Company’s report on Form 10-K for the year ended
December 31, 1996 and incorporated herein by reference. |
|
|
|
|
|
10.13+*
|
|
-
|
|
Amendment to Employment Agreement dated May 1, 1991 between the Company and Richard
A. Werner dated as of January 5, 2006. |
|
|
|
|
|
10.14+*
|
|
-
|
|
Employment Agreement dated as of January 5, 2006 between the Company and Richard A.
Werner. |
|
|
|
|
|
10.15+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Douglas L. Rock. Filed as Exhibit 10.11 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.16+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Neal S. Sutton. Filed as Exhibit 10.12 to the Company’s report on Form 10-K for the
year ended December 31, 1999 and incorporated herein by reference. |
55
| |
|
|
|
|
10.17+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Richard A. Werner. Filed as Exhibit 10.13 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.18+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Loren K. Carroll. Filed as Exhibit 10.14 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.19+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Margaret K. Dorman. Filed as Exhibit 10.15 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.20+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
John J. Kennedy. Filed as Exhibit 10.16 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.21+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Roger A. Brown. Filed as Exhibit 10.17 to the Company’s report on Form 10-K for the
year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.22+
|
|
-
|
|
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. |
|
|
|
|
|
10.23
|
|
-
|
|
Credit Agreement dated as of July 10, 2002 among the Company and M-I
L.L.C., the Lenders parties thereto and Comerica Bank, as Administrative
Agent, ABN AMRO Bank N.V., as Syndication Agent, Den Norske Bank ASA, as
Documentation Agent, J.P. Morgan Securities Inc., and Credit Lyonnais New York
Branch, as Co-Lead Arrangers and Joint Bookrunners. Filed as Exhibit 10.1 to the
Company’s report on Form 10-Q for the quarter ended September 30, 2002 and
incorporated herein by reference. |
|
|
|
|
|
10.24
|
|
-
|
|
Credit Agreement dated as of May 5, 2005 among the Company and M-I L.L.C. ,
the Lenders From Time to Time Party Thereto and Comerica Bank, as Administrative
Agent, ABN AMRO Bank N.V., as Syndication Agent, Den Norske Bank ASA, as
Documentation Agent, and Calyon New York Branch and RBS Securities Corporation, as
Co-Lead Arrangers and Joint Bookrunners. Filed as Exhibit 10.1 to the Company’s
report on Form 10-Q for the quarter ended March 31, 2005 and incorporated herein by
reference. |
|
|
|
|
|
21.1
|
|
-
|
|
Subsidiaries of the Company. Filed as Exhibit 21.1 to the Company’s report on Form
10-K for the year ended December 31, 2002 and incorporated herein by reference. |
|
|
|
|
|
23.1*
|
|
-
|
|
Consent of Independent Registered Public Accounting Firm. |
|
|
|
|
|
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. |
56
SCHEDULE II
SMITH INTERNATIONAL, INC.
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
(In thousands)
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Balance at |
|
Charged |
|
|
|
|
|
Balance |
| |
|
Beginning |
|
to |
|
|
|
|
|
at End |
| |
|
of Year |
|
Expense |
|
Write-offs |
|
of Year |
Allowance for doubtful accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2005 |
|
$ |
12,558 |
|
|
$ |
4,216 |
|
|
$ |
(2,890 |
) |
|
$ |
13,884 |
|
Year ended December 31, 2004 |
|
|
12,135 |
|
|
|
3,846 |
|
|
|
(3,423 |
) |
|
|
12,558 |
|
Year ended December 31, 2003 |
|
|
12,338 |
|
|
|
3,835 |
|
|
|
(4,038 |
) |
|
|
12,135 |
|
57
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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. |
|
|
|
|
|
March 13, 2006
|
|
By:
|
|
/s/ Doug Rock |
|
|
|
|
|
|
|
|
|
Doug Rock |
|
|
|
|
Chief Executive Officer, |
|
|
|
|
President and Chief Operating Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the Registrant and in the capacities on the date
indicated:
| |
|
|
|
|
/s/ Doug Rock
|
|
Chairman of the Board,
|
|
March 13, 2006 |
|
|
Chief Executive Officer, President and |
|
|
|
|
Chief Operating Officer (principal |
|
|
|
|
executive officer) |
|
|
|
|
|
|
|
/s/ Loren K. Carroll
|
|
Executive Vice President
|
|
March 13, 2006 |
|
|
and Director |
|
|
|
|
|
|
|
/s/ Margaret K. Dorman
|
|
Senior Vice President,
|
|
March 13, 2006 |
|
|
Chief Financial Officer |
|
|
|
|
and Treasurer (principal financial |
|
|
|
|
and accounting officer) |
|
|
|
|
|
|
|
/s/ Benjamin F. Bailar
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
|
|
|
|
|
/s/ G. Clyde Buck
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
|
|
|
|
|
/s/ Dod A. Fraser
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
|
|
|
|
|
/s/ James R. Gibbs
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
|
|
|
|
|
/s/ Robert Kelley
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
|
|
|
|
|
/s/ Jerry w. Neely
|
|
Director
|
|
March 13, 2006 |
|
|
|
|
|
58
Exhibit Index
Exhibits designated with an “*” are filed, and with an “**” are furnished, as an exhibit to
this Annual Report on Form 10-K. 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 dated July 26, 2005. Filed as
Exhibit 3.4 to the Company’s report on Form 10-Q for the quarter ended June 30, 2005
and incorporated herein by reference. |
|
|
|
|
|
3.2
|
|
-
|
|
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. |
|
|
|
|
|
4.1
|
|
-
|
|
Rights Agreement, dated as of June 8, 2000, between the Company and First Chicago
Trust Company of New York, as Rights Agent. Filed as Exhibit 4.1 to the Company’s
report on Form 8-A, dated June 15, 2000, and incorporated herein by reference. |
|
|
|
|
|
4.2
|
|
-
|
|
Amendment to Rights Agreement dated June 8, 2000, by and among the Company and First
Chicago Trust Company of New York and effective as of October 1, 2001. Filed as
Exhibit 4.1 to the Company’s report on Form 10-Q for the quarter ended September 30,
2001 and incorporated herein by reference. |
|
|
|
|
|
4.3
|
|
-
|
|
Amendment No. 2 to Rights Agreement by and among the Company and EquiServe Trust
Company, N.A. and effective as of December 31, 2002. Filed as Exhibit 4.3 to the
Company’s report on Form 10-K for the year ended December 31, 2002 and incorporated
herein by reference. |
|
|
|
|
|
4.4
|
|
-
|
|
Form of Indenture between the Company and The Bank of New York, as Trustee. Filed
as Exhibit 4.1 to the Company’s Registration Statement on Form S-3 dated August 22,
1997 and incorporated herein by reference. |
|
|
|
|
|
4.5
|
|
-
|
|
Form of Note. Filed as Exhibit 4.2 to Amendment No. 1 to the Company’s Registration
Statement on Form S-3 dated September 9, 1997 and incorporated herein by reference. |
|
|
|
|
|
4.6
|
|
-
|
|
Form of Note. Filed as Exhibit 4.1 to the Company’s report on Form 8-K dated
February 13, 2001 and incorporated herein by reference. |
|
|
|
|
|
10.1+
|
|
-
|
|
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. |
|
|
|
|
|
10.2+
|
|
-
|
|
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. Filed as Exhibit 10.3 to the Company’s Form 10-Q for the quarter ended June
30, 2005 and incorporated herein by reference. |
|
|
|
|
|
10.3+*
|
|
-
|
|
Smith International, Inc. Form of Nonstatutory Option Agreement as amended to date. |
|
|
|
|
|
10.4+*
|
|
-
|
|
Smith International, Inc. Form of Restricted Stock Unit Agreement as amended to date. |
|
|
|
|
|
10.5+*
|
|
-
|
|
Smith International, Inc. Form of Performance-Based Restricted Stock Unit Agreement
as amended to date. |
|
|
|
|
|
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’s report on Form
8-K dated April 20, 2005 and incorporated herein by reference. |
|
|
|
|
|
10.7+
|
|
-
|
|
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. |
59
| |
|
|
|
|
10.8+
|
|
-
|
|
Smith International, Inc. Supplemental Executive Retirement Plan, as amended to
date. Filed as Exhibit 10.1 to the Company’s report on Form 10-Q for the quarter
ended September 30, 2001 and incorporated herein by reference. |
|
|
|
|
|
10.9+
|
|
-
|
|
Smith International, Inc. Post-2004 Supplemental Executive Retirement Plan. Filed
as Exhibit 10.4 to the Company’s report on Form 8-K dated February 28, 2005 and
incorporated herein by reference. |
|
|
|
|
|
10.10+
|
|
-
|
|
Employment Agreement dated December 10, 1987 between the Company and Douglas L.
Rock. Filed as Exhibit 10.11 to the Company’s report on Form 10-K for the year
ended December 31, 1993 and incorporated herein by reference. |
|
|
|
|
|
10.11+
|
|
-
|
|
Employment Agreement dated January 2, 1991 between the Company and Neal S. Sutton.
Filed as Exhibit 10.11 to the Company’s report on Form 10-K for the year ended
December 31, 1996 and incorporated herein by reference. |
|
|
|
|
|
10.12+
|
|
-
|
|
Employment Agreement dated May 1, 1991 between the Company and Richard A. Werner.
Filed as Exhibit 10.12 to the Company’s report on Form 10-K for the year ended
December 31, 1996 and incorporated herein by reference. |
|
|
|
|
|
10.13+*
|
|
-
|
|
Amendment to Employment Agreement dated May 1, 1991 between the Company and Richard
A. Werner dated as of January 5, 2006. |
|
|
|
|
|
10.14+*
|
|
-
|
|
Employment Agreement dated as of January 5, 2006 between the Company and Richard A.
Werner. |
|
|
|
|
|
10.15+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Douglas L. Rock. Filed as Exhibit 10.11 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.16+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Neal S. Sutton. Filed as Exhibit 10.12 to the Company’s report on Form 10-K for the
year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.17+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Richard A. Werner. Filed as Exhibit 10.13 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.18+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Loren K. Carroll. Filed as Exhibit 10.14 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.19+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Margaret K. Dorman. Filed as Exhibit 10.15 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.20+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
John J. Kennedy. Filed as Exhibit 10.16 to the Company’s report on Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference. |
|
|
|
|
|
10.21+
|
|
-
|
|
Change-of-Control Employment Agreement dated January 4, 2000 between the Company and
Roger A. Brown. Filed as Exhibit 10.17 to the Company’s report on Form 10-K for the
year ended December 31, 1999 and incorporated herein by reference. |
60
| |
|
|
|
|
10.22+ -
|
|
|
|
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. |
|
|
|
|
|
10.23 -
|
|
|
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Credit Agreement dated as of July 10, 2002 among the
Company and M-I L.L.C., the Lenders parties
thereto and Comerica Bank, as Administrative Agent, ABN
AMRO Bank N.V., as Syndication Agent, Den Norske Bank ASA,
as Documentation Agent, J.P. Morgan Securities Inc., and
Credit Lyonnais New York Branch, as Co-Lead Arrangers and
Joint Bookrunners. Filed as Exhibit 10.1 to the Company’s
report on Form 10-Q for the quarter ended September 30,
2002 and incorporated herein by reference. |
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10.24 -
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Credit Agreement dated as of May 5, 2005 among the Company
and M-I L.L.C. , the Lenders From Time to Time
Party Thereto and Comerica Bank, as Administrative Agent,
ABN AMRO Bank N.V., as Syndication Agent, Den Norske Bank
ASA, as Documentation Agent, and Calyon New York Branch
and RBS Securities Corporation, as Co-Lead Arrangers and
Joint Bookrunners. Filed as Exhibit 10.1 to the Company’s
report on Form 10-Q for the quarter ended March 31, 2005
and incorporated herein by reference. |
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21.1 -
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Subsidiaries of the Company. Filed as Exhibit 21.1 to the
Company’s report on Form 10-K for the year ended December
31, 2002 and incorporated herein by reference. |
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23.1* -
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Consent of Independent Registered Public Accounting Firm. |
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31.1* -
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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. |
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31.2* -
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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. |
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32.1** -
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Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002. |
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