UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission file number
1-8514
SMITH INTERNATIONAL, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 95-3822631
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
411 NORTH SAM HOUSTON PARKWAY, SUITE 600
HOUSTON, TEXAS 77060
(Address of principal executive offices) (Zip Code)
(281) 443-3370
(Registrant's telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former fiscal year, if changed
since last report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No[ ]
The number of shares outstanding of the Registrant's common stock as of April
30, 2004 was 104,385,179.
INDEX
PAGE NO.
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
For the Three Months ended March 31, 2004 and 2003................................................. 1
CONSOLIDATED CONDENSED BALANCE SHEETS
As of March 31, 2004 and December 31, 2003......................................................... 2
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
For the Three Months ended March 31, 2004 and 2003................................................. 3
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS............................................... 4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.............. 11
ITEM 3. QUALITATIVE AND QUANTITATIVE MARKET RISK DISCLOSURES............................................... 18
ITEM 4. CONTROLS AND PROCEDURES............................................................................ 18
PART II - OTHER INFORMATION
ITEMS 1-6................................................................................................... 19
SIGNATURES........................................................................................................... 20
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
Three Months Ended
March 31,
--------------------------------
2004 2003
--------------- -----------
Revenues...................................................... $ 1,017,788 $ 808,837
Costs and expenses:
Costs of revenues......................................... 703,786 570,494
Selling expenses.......................................... 160,559 137,128
General and administrative expenses....................... 45,982 38,061
-------------- -----------
Total costs and expenses.............................. 910,327 745,683
-------------- -----------
Operating income.............................................. 107,461 63,154
Interest expense.............................................. 9,439 10,272
Interest income............................................... (365) (580)
-------------- -----------
Income before income taxes, minority interests and
cumulative effect of change in accounting principle....... 98,387 53,462
Income tax provision.......................................... 31,845 16,840
Minority interests............................................ 21,692 14,907
-------------- -----------
Income before cumulative effect of change in accounting
principle................................................. 44,850 21,715
Cumulative effect of change in accounting principle,
net of tax and minority interests......................... - (1,154)
-------------- -----------
Net income.................................................... $ 44,850 $ 20,561
============== ===========
Basic:
Earnings per share before cumulative effect of change in
accounting principle.................................. $ 0.44 $ 0.22
Cumulative effect of change in accounting principle....... - (0.01)
-------------- -----------
Earnings per share........................................ $ 0.44 $ 0.21
============== ===========
Diluted:
Earnings per share before cumulative effect of change in
accounting principle.................................. $ 0.44 $ 0.22
Cumulative effect of change in accounting principle....... - (0.01)
-------------- -----------
Earnings per share........................................ $ 0.44 $ 0.21
============== ===========
Weighted average shares outstanding:
Basic..................................................... 101,070 99,265
Diluted................................................... 102,504 100,267
The accompanying notes are an integral part of these consolidated
condensed financial statements.
1
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(In thousands, except par value data)
(Unaudited)
March 31, December 31,
2004 2003
-------------- -------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents.................................................. $ 45,063 $ 51,286
Receivables, net........................................................... 832,968 801,819
Inventories, net........................................................... 777,027 739,627
Deferred tax assets, net................................................... 28,947 31,238
Prepaid expenses and other................................................. 57,368 55,826
-------------- -------------
Total current assets................................................... 1,741,373 1,679,796
-------------- -------------
Property, Plant and Equipment, net............................................. 539,986 534,871
Goodwill, net.................................................................. 692,049 690,593
Other Assets................................................................... 191,394 191,787
-------------- -------------
Total Assets................................................................... $ 3,164,802 $ 3,097,047
============== =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term borrowings and current portion of long-term debt................ $ 106,929 $ 89,747
Accounts payable........................................................... 336,437 310,754
Accrued payroll costs...................................................... 60,619 73,723
Income taxes payable....................................................... 72,811 69,301
Other...................................................................... 72,924 87,399
-------------- -------------
Total current liabilities.............................................. 649,720 630,924
-------------- -------------
Long-Term Debt................................................................. 435,449 488,548
Deferred Tax Liabilities....................................................... 79,940 80,065
Other Long-Term Liabilities.................................................... 76,791 74,066
Minority Interests............................................................. 607,826 587,668
Commitments and Contingencies (See Note 12)
STOCKHOLDERS' EQUITY:
Preferred stock, $1 par value; 5,000 shares authorized; no shares
issued or outstanding in 2004 or 2003.................................. - -
Common stock, $1 par value; 150,000 shares authorized; 104,226 shares
issued in 2004 (102,720 shares issued in 2003)......................... 104,226 102,720
Additional paid-in capital................................................. 406,550 371,438
Retained earnings.......................................................... 823,973 779,123
Accumulated other comprehensive income..................................... 9,457 11,625
Less - Treasury securities, at cost; 2,384 common shares................... (29,130) (29,130)
-------------- -------------
Total stockholders' equity.......................................... 1,315,076 1,235,776
-------------- -------------
Total Liabilities and Stockholders' Equity..................................... $ 3,164,802 $ 3,097,047
============== =============
The accompanying notes are an integral part of these consolidated
condensed financial statements.
2
SMITH INTERNATIONAL, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Three Months Ended
March 31,
---------------------------------
2004 2003
-------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................................... $ 44,850 $ 20,561
Adjustments to reconcile net income to net cash provided by operating
activities, excluding the net effects of acquisitions:
Cumulative effect of change in accounting principle...................... - 1,154
Depreciation and amortization............................................ 26,494 24,384
Minority interests....................................................... 21,692 14,907
Deferred income tax provision............................................ 4,798 1,277
Provision for losses on receivables...................................... 953 430
Gain on disposal of property, plant and equipment........................ (2,622) (2,110)
Foreign currency translation losses...................................... 974 813
Changes in operating assets and liabilities:
Receivables.............................................................. (33,618) (64,331)
Inventories.............................................................. (38,540) (10,946)
Accounts payable......................................................... 26,340 (3,297)
Other current assets and liabilities..................................... (24,416) (3,374)
Other non-current assets and liabilities................................. 1,154 (9,427)
------------- --------------
Net cash provided by (used in) operating activities.......................... 28,059 (29,959)
------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of businesses, net of cash acquired.............................. (12,865) (77,769)
Purchases of property, plant and equipment................................... (22,710) (20,699)
Proceeds from disposal of property, plant and equipment...................... 4,908 4,420
------------- --------------
Net cash used in investing activities........................................ (30,667) (94,048)
------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt..................................... 2,555 58,758
Principal payments of long-term debt......................................... (55,337) (1,316)
Net change in short-term borrowings.......................................... 16,865 19,390
Proceeds from exercise of stock options...................................... 32,948 4,253
------------- --------------
Net cash provided by (used in) financing activities.......................... (2,969) 81,085
------------- --------------
Effect of exchange rate changes on cash...................................... (646) 86
------------- --------------
Decrease in cash and cash equivalents........................................ (6,223) (42,836)
Cash and cash equivalents at beginning of period............................. 51,286 86,750
------------- --------------
Cash and cash equivalents at end of period................................... $ 45,063 $ 43,914
============= ==============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest....................................................... $ 16,349 $ 16,665
Cash paid for income taxes................................................... 19,267 5,929
The accompanying notes are an integral part of these consolidated
condensed financial statements.
3
SMITH INTERNATIONAL, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION OF INTERIM FINANCIAL STATEMENTS
The accompanying unaudited consolidated condensed financial statements of Smith
International, Inc. and subsidiaries (the "Company") were prepared in accordance
with U.S. generally accepted accounting principles and applicable rules and
regulations of the Securities and Exchange Commission (the "Commission")
pertaining to interim financial information. These interim financial statements
do not include all information or footnote disclosures required by generally
accepted accounting principles for complete financial statements and, therefore,
should be read in conjunction with the audited financial statements and
accompanying notes included in the Company's 2003 Annual Report on Form 10-K and
other current filings with the Commission. All adjustments which are, in the
opinion of management, of a normal and recurring nature and are necessary for a
fair presentation of the interim financial statements have been included.
Preparation of financial statements in conformity with U.S. generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosed amounts of
contingent assets and liabilities and the reported amounts of revenues and
expenses. If the underlying estimates and assumptions, upon which the financial
statements are based, change in future periods, actual amounts may differ from
those included in the accompanying consolidated condensed financial statements.
Management believes the consolidated condensed financial statements present
fairly the financial position, results of operations and cash flows of the
Company as of the dates indicated. The results of operations for the interim
periods presented may not be indicative of results for the fiscal year.
Certain reclassifications have been made to the prior year's financial
information to conform to the March 31, 2004 presentation.
2. DISCLOSURE RELATED TO ACCOUNTING PRONOUNCEMENTS
The cumulative effect of a change in accounting principle reflected in the March
2003 financial statements represents the impact of the Company's adoption of
Statement of Financial Accounting Standards ("SFAS") No. 143, "Accounting for
Asset Retirement Obligations."
From time to time, new accounting pronouncements are issued by the Financial
Accounting Standards Board ("FASB") which are adopted by the Company as of the
specified effective date. Unless otherwise discussed, management believes the
impact of recently issued standards, which are not yet effective, will not have
a material impact on the Company's consolidated condensed financial statements
upon adoption.
3. BUSINESS COMBINATIONS
During the three months ended March 31, 2004, the Company completed two
acquisitions in exchange for cash consideration of $12.0 million. The
consideration primarily relates to the purchase of certain specialty chemical
assets of Fortum Oil and Gas OY completed in January 2004. The Fortum
operations, formerly based in Finland, manufacture and market specialty chemical
products which improve hydrocarbon flow rates.
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. The excess of the purchase price over
the estimated fair value of the net assets acquired approximated $0.6 million
and has been recorded as goodwill. The purchase price allocations related to
these acquisitions are based on preliminary information and are 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. Pro forma results of operations have not been
presented because the effect of these acquisitions was not material to the
Company's consolidated condensed financial statements.
In certain situations, the Company negotiates transaction terms, which provide
for the payment of additional consideration if various financial and/or business
objectives are met. During the three-month period ended March 31, 2004, the
Company paid $0.9 million of additional purchase consideration to the former
shareholders of IKF Services which is reflected in the accompanying consolidated
condensed balance sheet as a purchase price adjustment to goodwill.
4
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. Certain
outstanding employee stock options were not included in the computation of
diluted earnings per common share for the three-month period ended March 31,
2003, as the exercise price was greater than 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):
Three Months Ended
March 31,
------------------
2004 2003
------------- --------------
BASIC EPS:
Income before cumulative effect of
change in accounting principle............ $ 44,850 $ 21,715
============== ==============
Weighted average number of common
shares outstanding........................ 101,070 99,265
============== ==============
Basic EPS before cumulative effect of
change in accounting principle............ $ 0.44 $ 0.22
============== ==============
DILUTED EPS:
Income before cumulative effect of
change in accounting principle............ $ 44,850 $ 21,715
============== ==============
Weighted average number of common
shares outstanding........................ 101,070 99,265
Dilutive effect of stock options............ 1,434 1,002
-------------- --------------
102,504 100,267
============== ==============
Diluted EPS before cumulative effect of
change in accounting principle............ $ 0.44 $ 0.22
============== ==============
5. INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined using
the average cost method for the majority of the Company's inventories; however,
certain of the Company's U.S.-based inventories are valued utilizing the
last-in, first-out ("LIFO") method. Inventory costs, consisting of materials,
labor and factory overhead, are as follows (in thousands):
March 31, December 31,
2004 2003
-------------- -------------
Raw materials......................................................... $ 62,111 $ 62,631
Work-in-process....................................................... 73,693 66,151
Products purchased for resale......................................... 190,247 170,973
Finished goods........................................................ 480,795 464,151
-------------- -------------
806,846 763,906
Reserves to state certain domestic inventories (cost of $282,784
and $266,328 in 2004 and 2003, respectively) on a LIFO basis........ (29,819) (24,279)
-------------- -------------
$ 777,027 $ 739,627
============== =============
5
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following (in thousands):
March 31, December 31,
2004 2003
-------------- -------------
Land.................................................................. $ 38,519 $ 38,394
Buildings............................................................. 137,269 134,568
Machinery and equipment............................................... 516,490 511,615
Rental tools.......................................................... 333,912 323,977
-------------- -------------
1,026,190 1,008,554
Less-Accumulated depreciation......................................... 486,204 473,683
-------------- -------------
$ 539,986 $ 534,871
============== =============
7. GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
The following table presents goodwill on a segment basis as of the dates
indicated as well as changes in the account during the period shown. Beginning
and ending goodwill balances are presented net of accumulated amortization of
$53.6 million.
Oilfield Distribution
Segment Segment Consolidated
-------------- -------------- ------------
(in thousands)
Balance as of December 31, 2003................. $ 652,822 $ 37,771 $ 690,593
Goodwill acquired............................... 556 - 556
Purchase price and other adjustments............ 900 - 900
-------------- ------------- -------------
Balance as of March 31, 2004.................... $ 654,278 $ 37,771 $ 692,049
============== ============= =============
Other Intangible Assets
The Company amortizes other identifiable intangible assets on a straight-line
basis over the periods expected to be benefited, ranging from three to 27 years.
The components of these other intangible assets, recorded in Other Assets in the
accompanying consolidated condensed balance sheets, are as follows (in
thousands):
March 31, 2004 December 31, 2003
------------------------------------- -------------------------------------
Weighted
Gross Gross Average
Carrying Accumulated Carrying Accumulated Amortization
Amount Amortization Net Amount Amortization Net Period
------------------------------------ ------------------------------------- ------------
(years)
Patents............. $ 41,697 $ 12,565 $ 29,132 $ 38,520 $ 12,015 $ 26,505 15.1
License
agreements........ 19,086 2,685 16,401 19,086 2,193 16,893 11.7
Non-compete
agreements and
trademarks........ 19,593 6,424 13,169 19,583 5,649 13,934 11.9
Customer lists
and contracts.... 8,724 1,123 7,601 8,724 877 7,847 16.8
------------------------------------ ------------------------------------ ----
$ 89,100 $ 22,797 $ 66,303 $ 85,913 $ 20,734 $ 65,179 13.8
==================================== ==================================== ====
Amortization expense was $2.1 million and $1.5 million for the three-month
periods ended March 31, 2004 and 2003, respectively. Additionally, estimated
future amortization expense is expected to range between $4.1 million and $8.0
million a year for the next five fiscal years.
6
8. STOCK-BASED COMPENSATION
The Company's Board of Directors and its stockholders have authorized an
employee stock option plan. As of March 31, 2004, 4.6 million shares were issued
and outstanding under the program and an additional 2.3 million shares were
authorized for future issuance. 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.
Certain option awards granted on December 4, 2001 were subject to stockholder
approval which was not obtained until April 24, 2002. Accordingly, these options
were granted with a strike price more than five percent below the market value
on the date of issuance and do not meet the conditions necessary to qualify as a
non-compensatory option grant. Compensation expense related to these grants is
being recognized over the four-year vesting period and resulted in the inclusion
in the accompanying consolidated condensed statement of operations of $0.1
million of related expense for each of the three-month periods ended March 31,
2004 and 2003.
The Company continues to apply Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," and related interpretations in
accounting for its stock option program, as allowed under SFAS No. 123,
"Accounting for Stock-Based Compensation." Therefore, for all options other than
those mentioned above, the Company elects to make pro forma disclosures versus
recognizing the related compensation expense in the accompanying consolidated
condensed financial statements. Had the Company elected to apply the accounting
standards of SFAS No. 123, the Company's net income and earnings per share would
have approximated the pro forma amounts indicated below (in thousands, except
per share data):
Three Months Ended March 31,
-------------------------------
2004 2003
----------- -------------
Net income, as reported...................................................... $ 44,850 $ 20,561
Add: Stock-based compensation expense included in reported
income, net of related tax effect......................................... 68 68
Less: Total stock-based compensation expense determined under
the Black-Scholes option-pricing model, net of related tax effect......... (2,943) (2,683)
----------- -------------
Net income, pro forma........................................................ $ 41,975 $ 17,946
=========== =============
Earnings per share:
As reported:
Basic.................................................................... $ 0.44 $ 0.21
Diluted.................................................................. 0.44 0.21
Pro forma:
Basic.................................................................... $ 0.42 $ 0.18
Diluted.................................................................. 0.41 0.18
In addition to the stock option program described above, the Company maintains a
stock grant program. The stock grants are issued at par value and are subject to
a four-year cliff-vesting schedule. Compensation expense, calculated as the
difference between the market value on the date of grant and the exercise price,
is being recognized ratably over the vesting period and resulted in the
inclusion in the accompanying consolidated condensed statements of operations of
$0.1 million of related expense for each of the three-month periods ended March
31, 2004 and 2003.
9. EMPLOYEE BENEFIT PLANS
The Company maintains various noncontributory defined benefit pension plans
covering certain U.S. and non-U.S. employees. In addition, the Company and
certain subsidiaries have postretirement benefit plans which provide health care
benefits to a limited number of current, and in some cases, future retirees. Net
periodic benefit expense related to the pension and postretirement benefit
plans, on a combined basis, totaled $0.2 million for each of the three-month
periods ended March 31, 2004 and 2003. Company contributions to the pension and
postretirement benefit plans during 2004 are expected to be comparable to the
aggregate of $1.7 million contributed in fiscal 2003.
7
10. COMPREHENSIVE INCOME
Comprehensive income includes net income and changes in the components of
Accumulated other comprehensive income during the periods presented. The
Company's comprehensive income is as follows (in thousands):
Three Months Ended March 31,
------------------------------
2004 2003
----------- -----------
Net income................................. $ 44,850 $ 20,561
Changes in unrealized fair value of (1,149) 406
derivatives, net.........................
Currency translation adjustments........... (1,019) 3,963
----------- -----------
Comprehensive income....................... $ 42,682 $ 24,930
=========== ===========
Accumulated other comprehensive income in the accompanying consolidated
condensed balance sheets consists of the following (in thousands):
March 31, December 31,
2004 2003
------------ ------------
Currency translation adjustments............................................. $ 11,801 $ 12,820
Unrealized fair value of derivatives......................................... 1,190 2,339
Pension liability adjustments................................................ (3,534) (3,534)
----------- ------------
Accumulated other comprehensive income....................................... $ 9,457 $ 11,625
=========== ============
11. INDUSTRY SEGMENTS
The Company manufactures and markets premium products and services to the oil
and gas exploration and production industry, the petrochemical industry and
other industrial markets. The Company aggregates its operations into two
reportable segments: Oilfield Products and Services and Distribution. The
Oilfield Products and Services segment consists of three business units: M-I
SWACO, Smith Technologies and Smith Services. The Distribution segment includes
the Wilson business unit. The following table presents financial information for
each reportable segment and geographical revenues on a consolidated basis (in
thousands):
Three Months Ended March 31,
------------------------------
2004 2003
----------- -----------
Revenues:
Oilfield Products and Services.......... $ 755,490 $ 603,560
Distribution............................ 262,298 205,277
----------- -----------
$ 1,017,788 $ 808,837
=========== ===========
Revenues by Area:
United States........................... $ 442,161 $ 367,315
Canada.................................. 127,549 86,281
----------- -----------
North America...................... 569,710 453,596
----------- -----------
Latin America........................... 92,473 67,221
Europe/Africa........................... 223,976 187,048
Middle East............................. 85,261 67,448
Far East................................ 46,368 33,524
----------- -----------
Non-North America.................. 448,078 355,241
----------- -----------
$ 1,017,788 $ 808,837
=========== ===========
Operating Income (Loss):
Oilfield Products and Services.......... $ 106,412 $ 68,933
Distribution............................ 3,066 (4,099)
General Corporate....................... (2,017) (1,680)
----------- -----------
$ 107,461 $ 63,154
=========== ===========
8
12. COMMITMENTS AND CONTINGENCIES
Standby Letters of Credit and Guarantees
In the normal course of business with customers, vendors and others, the Company
is contingently liable for performance under standby letters of credit and bid,
performance and surety bonds. Certain of these outstanding instruments guarantee
payment of notes issued to former shareholders of an acquired entity as well as
to insurance companies which reinsure certain liability coverages of the
Company's insurance captive. Excluding the impact of these instruments, for
which $32.3 million of related liabilities are reflected in the accompanying
consolidated condensed balance sheet, the Company is contingently liable for
approximately $41.9 million of standby letters of credit and bid, performance
and surety bonds at March 31, 2004. Management does not expect any material
amounts to be drawn on these instruments.
The Company has also provided loan guarantees related to certain joint ventures
accounted for under the equity method of accounting. As the net assets and cash
flows of these entities are available to satisfy obligations as they become due,
management believes the likelihood is remote that the Company will be required
to perform under these guarantees. The Company's estimated maximum exposure
under these loan guarantees approximated $18.3 million as of March 31, 2004.
Litigation
On April 17, 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").
On August 25, 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, on March 30, 2004, a jury verdict of approximately $4.8
million was rendered in favor of the plaintiffs. The Company believes that this
decision is erroneous and intends to vigorously pursue all options. Once the
judgment is entered by the court, the Company will file all appropriate motions
and, if necessary, appeal the verdict. Based upon the facts and circumstances
and the opinion of outside counsel, management believes that an unfavorable
outcome on this matter is not probable at this time. Accordingly, the Company
has not recognized a loss provision in the accompanying consolidated condensed
financial statements.
Additionally, 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 March 31, 2004 the Company's environmental reserve approximated $10.0
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 March 31, 2004, 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.
9
During the first quarter of 2003, the Company initiated legal action against M-I
SWACO's former owners to address issues associated with certain provisions of
the environmental indemnification provided. This matter is expected to go to
trial during the fourth quarter of 2004. In the event that i) M-I SWACO's former
owners and other parties to indemnification agreements with the Company do not
fulfill their obligations, and ii) costs incurred to remediate the identified
properties reach estimated maximum exposure limits, the Company would be
required to establish additional environmental reserves of up to $25.0 million,
impacting earnings and cash flows in future periods.
10
ITEM. 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The following "Management's Discussion and Analysis of Financial Condition and
Results of Operations" is provided to assist readers in understanding the
Company's financial performance during the periods presented and significant
trends which may impact the future performance of the Company. This discussion
should be read in conjunction with the consolidated condensed financial
statements of the Company and the related notes thereto included elsewhere in
this Form 10-Q and the Company's 2003 Annual Report on Form 10-K.
COMPANY PRODUCTS AND OPERATIONS
The Company manufactures and markets premium products and services to the oil
and gas exploration and production industry, the petrochemical industry and
other industrial markets. The Company provides a comprehensive line of
technologically-advanced products and engineering services, including drilling
and completion fluid systems, solids-control and separation equipment,
waste-management services, oilfield production chemicals, three-cone and diamond
drill bits, turbine products, fishing services, drilling tools, underreamers,
casing exit and multilateral systems, packers and liner hangers. The Company
also offers supply chain management solutions through an extensive 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 80 percent of the current rig count focused on
natural gas finding and development activities. Conversely, drilling in areas
outside of North America is more dependent on crude oil fundamentals, which
influence over three-quarters of international drilling activity. Historically,
business in markets outside of North America has proved to be less volatile as
the high cost E&P programs in these regions are generally undertaken by major
oil companies, consortiums and national oil companies as part of a longer-term
strategic development plan. Although over half of the Company's consolidated
revenues were generated in North America during the first quarter of 2004,
Smith's profitability was largely dependent upon business levels in markets
outside of North America. The Distribution segment, which accounts for
approximately one-quarter 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 first quarter 2004 revenues
were generated in markets outside of North America.
MARKET OUTLOOK
Near-term activity levels will likely be influenced by the annual spring
break-up in Canada, which restricts drilling activity during the second quarter.
The Canadian rig count currently approximates one-third of first quarter 2004
levels, which will likely contribute to a temporary decline in average drilling
activity for the current quarter. Excluding the seasonal decline in Canada, the
Company believes activity levels will increase modestly throughout the remainder
of the year as E&P companies seek to address declining production levels
stemming from a period of underinvestment in their upstream operations. Although
there are several factors that could influence forecasted E&P spending, the
Company's business is highly dependent on the general economic environment in
the United States and other major world economies, which ultimately impact
energy consumption and the resulting demand for our products and services.
Changes in the global economic environment could impact worldwide drilling
activity and future results of the Company.
11
RESULTS OF OPERATIONS
Segment Discussion
The Company markets its products and services throughout the world through four
business units which are aggregated into two reportable segments. The Oilfield
Products and Services segment consists of three business units: M-I SWACO, Smith
Technologies and Smith Services. The Distribution segment includes the Wilson
business unit. The revenue discussion below has been summarized by business unit
in order to provide additional information in analyzing the Company's
operations.
Three Months Ended March 31,
-----------------------------------------------------
2004 2003
----------------------- ------------------------
Amount Percent Amount Percent
------------ ------- ------------ -------
FINANCIAL DATA: (dollars in thousands)
Revenues:
M-I SWACO............................ $ 519,085 51 $ 416,289 52
Smith Technologies................... 125,341 12 92,239 11
Smith Services....................... 111,064 11 95,032 12
------------ ----- ------------ -----
Oilfield Products and Services..... 755,490 74 603,560 75
Wilson............................... 262,298 26 205,277 25
------------ ----- ------------ -----
Total........................ $ 1,017,788 100 $ 808,837 100
============ ===== ============ =====
Geographic Revenues:
United States:
Oilfield Products and Services...... $ 263,009 25 $ 216,328 27
Distribution........................ 179,152 18 150,987 19
------------ ----- ------------ -----
Total United States............... 442,161 43 367,315 46
------------ ----- ------------ -----
Canada:
Oilfield Products and Services...... 58,818 6 43,451 5
Distribution........................ 68,731 7 42,830 5
------------ ----- ------------ -----
Total Canada...................... 127,549 13 86,281 10
------------ ----- ------------ -----
Non-North America:
Oilfield Products and Services...... 433,663 43 343,781 43
Distribution........................ 14,415 1 11,460 1
------------ ----- ------------ -----
Total Non-North America........... 448,078 44 355,241 44
------------ ----- ------------ -----
Total Revenue................. $ 1,017,788 100 $ 808,837 100
============ ===== ============ =====
Operating Income:
Oilfield Products and Services....... $ 106,412 14 $ 68,933 11
Distribution.......................... 3,066 1 (4,099) -
General Corporate..................... (2,017) * (1,680) *
------------ ----- ------------ -----
Total............................. $ 107,461 11 $ 63,154 8
============ ===== ============ =====
MARKET DATA:
Average Worldwide Rig Count: (1)
United States......................... 1,307 45 1,052 42
Canada................................ 474 17 455 18
Non-North America..................... 1,107 38 1,008 40
------------ ----- ------------ -----
Total............................. 2,888 100 2,515 100
============ ===== ============ =====
Average Commodity Prices:
Crude Oil ($/Bbl)(2).................. $ 35.13 $ 34.00
Natural Gas ($/mcf)(3)................ 5.41 6.13
(1) Source: M-I SWACO.
(2) Average West Texas Intermediate ("WTI") spot closing prices.
(3) Average weekly composite spot U.S. wellhead prices.
*not meaningful
12
Oilfield Products and Services Segment
Revenues
M-I SWACO primarily provides drilling and completion fluid systems, engineering
and technical services to the oil and gas industry. Additionally, these
operations provide oilfield production chemicals and manufacture and market
equipment and services used for solids-control, particle separation, pressure
control, rig instrumentation and waste-management. M-I SWACO is significantly
influenced by spending in markets outside of North America, which contributes
almost two-thirds of the unit's revenues, and by its exposure to the U.S.
offshore market, which constitutes approximately 12 percent of the revenue base.
U.S. offshore drilling programs, which account for four percent of the worldwide
rig count, are generally more revenue-intensive than land-based projects due to
the complex nature of the related drilling environment. M-I SWACO's revenues
totaled $519.1 million for the first quarter of 2004, an increase of 25 percent
above the prior year period. North American revenue growth mirrored the change
in the rig count, while Non-North American business volumes increased in excess
of corresponding activity levels. Two-thirds of the overall revenue variance was
generated outside of North America, with increased customer spending in
Europe/Africa and Latin America accounting for the majority of the revenue
improvement. To a lesser extent, the inclusion of a full quarter of the
production chemical operations, acquired in January 2003, and increased demand
for drilling and waste management product offerings also contributed to the
growth.
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 correlate more
closely to the rig count than any of the Company's other businesses. Moreover,
Smith Technologies has the highest North American revenue exposure of the
Oilfield segment units driven, in part, by the significance of its Canadian
operations. Accordingly, the duration and severity of the annual seasonal
drilling decline in Canada will likely have an adverse effect on the unit's
second quarter financial performance. Smith Technologies reported revenues of
$125.3 million for the quarter ended March 31, 2004, an increase of 36 percent
over the comparable prior year period. The year-over-year revenue growth
primarily relates to the increase in global activity levels but also reflects
the inclusion of several, large international export orders. These export
orders, which may or may not recur in future periods, were primarily
concentrated in the Eastern Hemisphere markets. Excluding export sales, revenues
grew 27 percent with revenues outside of North America growing in-line with
activity levels while sales volumes in the United States and Canada exceeded the
underlying change in the rig count. The North American revenue increase was
attributable to a combination of higher land-based drilling activity and
increased market penetration influenced, in part, by recent product
introductions.
Smith Services manufactures and markets products and services used in the oil
and gas industry for drilling, work-over, well completion and well re-entry.
Revenues for Smith Services are evenly distributed between North America and the
international markets and are heavily influenced by the complexity of drilling
projects, which drive demand for a wider range of its product offerings. For the
quarter ended March 31, 2004, Smith Services' revenues totaled $111.1 million,
17 percent above the prior year period. The year-over-year revenue growth
reflects higher sales across all core product lines, driven by the general
increase in global exploration and production spending. Over three-quarters of
the revenue improvement was reported in the Western Hemisphere markets,
associated with increased customer demand for remedial and drilling-related
product and service lines.
Operating Income
Operating income for the Oilfield Products and Services segment was $106.4
million, or 14 percent of revenues, for the three months ended March 31, 2004.
Segment operating margins increased 2.7 percentage points above the prior year
quarter reflecting a combination of gross margin expansion and, to a lesser
extent, reduced operating expenses as a percentage of revenues. The gross margin
improvement reflects the effect of higher sales volumes on fixed cost coverage,
increased absorption in the Company's manufacturing operations and a favorable
shift in the revenue mix towards higher-margin products. To a lesser extent,
price increases instituted during the fourth quarter of 2003 had a favorable
impact on reported margins. And, although the Company has announced several
price increases during 2004 which should lead to margin expansion in future
periods, there is no assurance that these increases will ultimately be realized.
13
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 95 percent of Wilson's first quarter 2004 revenues generated in
those markets. Moreover, approximately one-third 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. Distribution revenues
were $262.3 million for the first quarter of 2004, 28 percent above the
comparable prior year period. The majority of the year-over-year revenue
increase was reported in the energy sector operations, driven by the higher
level of North American drilling and completion activity. Industrial and
downstream revenues increased 25 percent benefiting from new contract awards in
the refining and petrochemical markets and increased project spending by
engineering and construction customers.
Operating Income
Operating income for the Distribution segment increased $7.2 million from the
first quarter of 2003 level, equating to incremental operating income of
approximately 13 percent of revenues. The incrementals were above those
historically reported in the segment, attributable to increased coverage of
fixed sales and administrative costs and, to a lesser extent, a favorable sales
mix associated with an increased proportion of higher-margin maintenance and
repair business.
Consolidated Results
For the periods indicated, the following table summarizes the results of the
Company and presents these results as a percentage of total revenues (dollars in
thousands):
Three Months Ended March 31,
-------------------------------------------------------
2004 2003
------------------------- --------------------------
Amount Percent Amount Percent
------------ ------- ------------ -------
Revenues................................................. $ 1,017,788 100 $ 808,837 100
------------ --- ------------ ---
Gross profit............................................. 314,002 31 238,343 29
Operating expenses....................................... 206,541 20 175,189 21
------------ --- ------------ ---
Operating income......................................... 107,461 11 63,154 8
Interest expense......................................... 9,439 1 10,272 1
Interest income.......................................... (365) - (580) -
------------ --- ------------ ---
Income before income taxes, minority interests and
cumulative effect of change in accounting principle.... 98,387 10 53,462 7
Income tax provision..................................... 31,845 3 16,840 2
Minority interests....................................... 21,692 2 14,907 2
------------ --- ------------ ---
Income before cumulative effect of change in
accounting principle................................... 44,850 5 21,715 3
Cumulative effect of change in accounting
principle, net of tax and minority interests........... - - (1,154) -
------------ --- ------------ ---
Net income............................................... $ 44,850 5 $ 20,561 3
============ === ============ ===
14
Consolidated revenues were $1.0 billion for the first quarter of 2004, 26
percent above the prior year period, primarily attributable to increased demand
for Oilfield segment product offerings. Over two-thirds of the revenue growth
was reported in the Western Hemisphere, benefiting from a 20 percent increase in
land-based drilling activity. Improved business volumes in certain Eastern
Hemisphere markets, specifically the Norwegian sector of the North Sea and the
FSU, also contributed to the year-over-year variance.
Gross profit totaled $314.0 million for the first quarter of 2004, 32 percent
above the prior year period. The increase in gross profit reflects higher sales
volumes associated with improved worldwide activity levels, specifically in the
Western Hemisphere. Gross profit margins for the first quarter of 2004 were 31
percent of revenues and compared to margins of 29 percent reported in the prior
year period. The gross margin expansion was influenced by the effect of
increased sales volumes on fixed manufacturing and service infrastructure, a
favorable shift in the product mix towards higher-margin products and services
and, to a lesser extent, improved pricing. Gross margin improvement in the
Oilfield segment was partially mitigated by an increased proportion of
Distribution segment sales, which traditionally generate lower gross profit
margins than the Oilfield operations.
Operating expenses, consisting of selling, general and administrative expenses,
increased $31.4 million on an absolute dollar basis; however, as a percentage of
revenues, decreased one percentage point from the prior year quarter. The
majority of the absolute dollar increase related to variable costs directly
associated with the improved business volumes, as well as increased investment
in personnel and infrastructure to support the expanding business base,
including engineering support costs. To a lesser extent, increased employee
profit-sharing amounts and higher costs associated with U.S. casualty insurance
programs also contributed to the period-to-period variance.
Net interest expense, which represents interest expense less interest income,
equaled $9.1 million in the first quarter of 2004. Net interest expense
decreased $0.6 million from the prior year quarter reflecting lower average debt
levels between the periods.
The effective tax rate for the first quarter approximated 32 percent, which was
above the 31 percent effective rate reported in the prior year period, 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. The effective tax rate increased 90 basis points above the first
quarter of 2003, attributable to an unfavorable shift in the geographic mix of
pretax income towards higher tax rate jurisdictions and, to a lesser extent, a
lower proportion of M-I SWACO's U.S. partnership earnings.
Minority interests reflect the portion of the results of majority-owned
operations which are applicable to the minority interest partners. Minority
interests was $6.8 million above the amount reported in the prior year quarter
due to the increased profitability of the M-I SWACO joint venture and, to a
lesser extent, improved earnings reported by C.E. Franklin Ltd.
The cumulative effect of change in accounting principle included for the three
months ended March 31, 2003 represents the impact of the adoption of Statement
of Financial Accounting Standards ("SFAS") No. 143, "Accounting for Asset
Retirement Obligations."
15
LIQUIDITY AND CAPITAL RESOURCES
General
At March 31, 2004, cash and cash equivalents equaled $45.1 million. During the
first quarter of 2004, the Company's operations generated $28.1 million of cash
flows as compared to the $30.0 million utilized in the comparable prior year
period. The improvement in cash generated from operations was attributable to a
combination of increased profitability levels and lower investment in working
capital associated with the timing of vendor payments.
During the first quarter of 2004, cash flows used in investing activities
totaled $30.7 million, consisting of amounts required to fund capital
expenditures and, to a lesser extent, acquisitions. The Company invested $17.8
million in property, plant and equipment, net of cash proceeds arising from
certain asset disposals. Acquisition funding, which primarily related to the
purchase of certain specialty chemical assets from Fortum Oil and Gas OY,
resulted in cash outflows of $12.9 million in the first quarter of 2004. Cash
used for investing activities during the first quarter of 2004 was less than the
$94.0 million required in the prior year period primarily due to the lower level
of acquisition funding.
Cash flows used in financing activities totaled $3.0 million for the first
quarter of 2004 as debt repayments of $35.9 million were largely offset by cash
proceeds associated with the exercise of employee stock options.
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. The Company
has various revolving credit facilities in the United States. As of March 31,
2004, the Company had $357.3 million of capacity available under these
facilities for future operating or investing needs of its worldwide operations.
The Company also has revolving credit facilities in place outside of the United
States, which are generally used to finance local operating needs. At March 31,
2004, the Company had available borrowing capacity of $65.7 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 March 31, 2004, 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.
Management continues to evaluate opportunities to acquire products or businesses
complementary to the Company's operations. Additional acquisitions, if they
arise, may involve the use of cash or, depending upon the size and terms of the
acquisition, may require debt or equity financing.
Commitments and Contingencies
Standby Letters of Credit and Guarantees
In the normal course of business with customers, vendors and others, the Company
is contingently liable for performance under standby letters of credit and bid,
performance and surety bonds. Certain of these outstanding instruments guarantee
payment of notes issued to former shareholders of an acquired entity as well as
to insurance companies which reinsure certain liability coverages of the
Company's insurance captive. Excluding the impact of these instruments, for
which $32.3 million of related liabilities are reflected in the accompanying
consolidated condensed balance sheet, the Company is contingently liable for
approximately $41.9 million of standby letters of credit and bid, performance
and surety bonds at March 31, 2004. Management does not expect any material
amounts to be drawn on these instruments.
The Company has also provided loan guarantees related to certain joint ventures
accounted for under the equity method of accounting. As the net assets and cash
flows of these entities are available to satisfy obligations as they become due,
management believes the likelihood is remote that the Company will be required
to perform under these guarantees. The Company's estimated maximum exposure
under these loan guarantees approximated $18.3 million as of March 31, 2004.
16
Litigation
On April 17, 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").
On August 25, 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, on March 30, 2004, a jury verdict of approximately $4.8
million was rendered in favor of the plaintiffs. The Company believes that this
decision is erroneous and intends to vigorously pursue all options. Once the
judgment is entered by the court, the Company will file all appropriate motions
and, if necessary, appeal the verdict. Based upon the facts and circumstances
and the opinion of outside counsel, management believes that an unfavorable
outcome on this matter is not probable at this time. Accordingly, the Company
has not recognized a loss provision in the accompanying consolidated condensed
financial statements.
Additionally, 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 March 31, 2004, the Company's environmental reserve approximated $10.0
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 March 31, 2004, 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 the first quarter of 2003, the Company initiated legal action against M-I
SWACO's former owners to address issues associated with certain provisions of
the environmental indemnification provided. This matter is expected to go to
trial during the fourth quarter of 2004. In the event that i) M-I SWACO's former
owners and other parties to indemnification agreements with the Company do not
fulfill their obligations, and ii) costs incurred to remediate the identified
properties reach estimated maximum exposure limits, the Company would be
required to establish additional environmental reserves of up to $25.0 million,
impacting earnings and cash flows in future periods.
Critical Accounting Policies and Estimates
The discussion and analysis of financial condition and results of operations are
based upon the Company's consolidated condensed financial statements, which have
been prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires the
Company to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of contingent
assets and liabilities. The Company evaluates its estimates on an ongoing basis,
based on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. Actual results may differ
from these estimates under different assumptions or conditions. In its 2003
Annual Report on Form 10-K, the Company has described the critical accounting
policies that require management's most significant judgments and estimates.
There have been no material changes in these critical accounting policies.
17
Recent Accounting Pronouncements
From time to time, new accounting pronouncements are issued by the Financial
Accounting Standards Board ("FASB") which are adopted by the Company as of the
specified effective date. Unless otherwise discussed, management believes the
impact of recently issued standards, which are not yet effective, will not have
a material impact on the Company's consolidated condensed financial statements
upon adoption.
ITEM 3. QUALITATIVE AND QUANTITATIVE MARKET RISK DISCLOSURES
The Company is exposed to certain market risks arising from transactions that
are entered into in the normal course of business which are primarily related to
interest rate changes and fluctuations in foreign exchange rates. During the
reporting period, no events or transactions have occurred which would materially
change the information disclosed in the Company's 2003 Annual Report on Form
10-K.
ITEM 4. CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures and internal controls
designed to ensure that information required to be disclosed in our filings
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time frame specified in the Commission's rules and
regulations. Our principal executive and financial officers have evaluated our
disclosure controls and procedures and have determined that such disclosure
controls and procedures are effective as of the end of the period covered by
this report. There were no significant changes in the Company's internal
controls or in other factors that could significantly affect those controls
subsequent to the evaluation date.
18
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORT ON FORM 8-K
(a) Exhibits filed as part of this report:
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.
(b) Exhibit furnished with this report:
32.1 Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
(c) Report on Form 8-K
The Registrant furnished a report on Form 8-K during the
quarterly period ended March 31, 2004. The document was
reported under "Item 7. Financial Statements and Exhibits" and
"Item 12. Disclosure of Results of Operations and Financial
Condition" and disclosed the following:
1. Form 8-K dated January 30, 2004 relating to a press
release announcing the Company's results for the
quarter and year ended December 31, 2003.
19
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SMITH INTERNATIONAL, INC.
Registrant
Date: May 10, 2004 By:/s/ DOUG ROCK
---------------------------------------
Doug Rock
Chairman of the Board, Chief Executive Officer,
President and Chief Operating Officer
Date: May 10, 2004 By:/s/ MARGARET K. DORMAN
----------------------
Margaret K. Dorman
Senior Vice President,
Chief Financial Officer and Treasurer
(Principal Accounting Officer)
20
EXHIBIT INDEX
Exhibit
Number Description
------- -----------
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.