Baker Hughes 2006 Annual Report Download

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â—†
B A K E R H U G H E S I N C O R P O R A T E D
2 0 0 6 A N N U A L R E P O R T
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Table of contents

  • Page 1
    â-† B A K E R H U G H E S I N C O R P O R A T E D R E P O R T 2 0 0 6 A N N U A L

  • Page 2
    ... the employees who will build our global future. Technology Innovation creates value for our customers and our shareholders. We have increased our investment in new technologies, and we use our specialized knowledge to apply them during the drilling, evaluation, completion and production processes...

  • Page 3
    ...for directional drilling and LWD services, and Centrilift's installation of subsea pumping systems. 3 West Africa Baker Hughes business in Angola grew with advanced drilling and logging services. In Equatorial Guinea, Baker Oil Tools deployed an innovative fracpacking service. 4 Middle East Growth...

  • Page 4
    ...methane applications. ProductionQuest Baker Hughes formed its ProductionQuest business unit in 2006 to provide technology and services that help maximize recovery from both new and mature fields. The unit provides production optimization services, including permanent monitoring, chemical automation...

  • Page 5
    ... $0.10 $0 Total Operating Profit After Tax Per Share (Diluted) 2004-2006, by Quarter $1,600 $1,400 $1,200 $1,000 $800 $600 $400 $200 $0 2004 2005 2006 Total Debt 2004-2006, by Quarter (In millions) Asia Pacific, 9% Russia, Caspian, 5% Middle East, 10% Africa, 9% uSA, 37% Europe, 14% latin America...

  • Page 6
    ... systems that will adapt to changing conditions over the life of the reservoir. Baker Hughes will play a leading role in making this exciting future a reality. Record Year In 2006, Baker Hughes achieved record revenue and operating income. The company as a whole had the highest profit margins...

  • Page 7
    ... devoted to rental tools in global operations, one-quarter was used to expand manufacturing capacity, and the balance was used to build new facilities and to support our international expansion. Baker Hughes also repurchased 24.3 million shares of common stock in 2006, at an average price of $76.50...

  • Page 8
    4 | BAkER HuGHES INCORPORATED

  • Page 9
    ...designed to enable rotary drilling in harder, deeper formations, and tested it successfully in Goose Creek, Texas. In 1909, the Sharp & Hughes bit was granted a U.S. patent, and the partners formed the Sharp-Hughes Tool Company in Houston, Texas. After Walter Sharp died in 1912, Mr. Hughes purchased...

  • Page 10
    ... laboratory conducted more than a half million experiments on more than 93,000 compounds. By the time he retired from Petrolite in 1960, DeGroote had earned 963 U.S. patents, making him the most prolific inventor of his era. 1924 In 1929, H. John Eastman introduced "controlled directional drilling...

  • Page 11
    ... international business strategies. To date, almost 400 Baker Hughes executives have participated in the program. In 2006, a second, more advanced mance downhole motor, and a measurement-while-drilling system, was deployed for land-based directional drilling in North America. In 2006, new products...

  • Page 12
    6 | BAkER HuGHES INCORPORATED

  • Page 13
    ... were introduced for drilling hard rock. In 1969, Hughes bits featured journal bearings for the first time, and in 1987 they incorporated metal bearing seals, greatly improving bit life. 1933 In 1942, Baker Oil Tools introduced the Model D Packer, which enabled multiple completions in the same...

  • Page 14
    ... Hughes Tool Company established the Hughes Gun Plant in Dickinson, Texas, to manufacture large bore guns, and Lane Wells Company also joined the war effort by producing electrical components for munitions. 1943 In 1944, Frank and George Christensen founded the Christensen Diamond Products company...

  • Page 15
    ...-pressure, high-temperature equipment. To address the significant growth opportunities in the Russian market, can access directional and formation data in real time and advise rig site personnel to optimize performance. Our BEACON center in Saudi Arabia supports operations on 28 rigs. Latin America...

  • Page 16
    8 | BAkER HuGHES INCORPORATED

  • Page 17
    ..., the Celle Technology Center is Baker Hughes' leading research and engineering facility in the Eastern Hemisphere. 1957 In 1959, the first Centrilift electrical submersible pump (ESP) was manufactured by Byron Jackson Pumps and installed in a California well. In the same year, parent company Borg...

  • Page 18
    ... the rate of penetration compared to roller cone bits drilling in the same formation. Christensen PDC bits were commercialized in 1975. 1972 In 1976, Baker Oil Tools established an autonomous division to specialize in sand control technology and service. Early innovations included Bakerweld...

  • Page 19
    ... a country management structure with all Baker Hughes division activities reporting to a single country director. Given the difficult operating conditions in Nigeria, this structure provides a better capability to allocate resources, work with government officials and control risk. Our latin America...

  • Page 20
    10 | BAkER HuGHES INCORPORATED

  • Page 21
    ... to the surface on pressure pulses carried by the drilling mud. This innovation saved time for offshore rigs by eliminating the need for single shot surveys and wireline steering tools. Teleco was acquired by Baker Hughes in 1992 and merged into the new INTEQ division. In 1984, Norton Christensen...

  • Page 22
    ..., Baker International Corporation and Hughes Tool Company merged to form Baker Hughes Incorporated. The new company combined the long traditions of two oilfield service leaders and could offer customers a wide range of technologies for drilling, completion and production. Twenty years later, Baker...

  • Page 23
    ... production systems that incorporate completion, pumping and chemical technology from other Baker Hughes divisions. During the year, ProductionQuest engineers also conducted field optimization studies to help oil companies maximize hydrocarbon recovery. To support technology innovation, Baker Hughes...

  • Page 24
    ...to our board of directors. Dr. Jungels' experience as a European executive of a london-based oil company operating internationally will serve Baker Hughes well as we pursue our global strategy. In 2006, Baker Hughes also appointed a new CFO. Peter A. Ragauss, who joined the company after 19 years at...

  • Page 25
    ... OF BAKER HUGHES INCORPORATED: The Annual Meeting of the Stockholders of Baker Hughes Incorporated ("Company" or "Baker Hughes") will be held at the Plaza Banquet Room located at 2777 Allen Parkway, Houston, Texas on Thursday, April 26, 2007, at 9:00 a.m., Central Daylight Time, for the purpose of...

  • Page 26
    ... Awards at Fiscal Year-End ...Option Exercise and Stock Vested ...Pension Benefits ...NonQualified Deferred Compensation ...Potential Payments upon Termination or Change in Control ...Director Compensation ...Compensation Committee Report...Compensation Committee Interlocks and Insider Participation...

  • Page 27
    ... ten days prior to the Annual Meeting of Stockholders, a complete list of stockholders entitled to vote at the Annual Meeting will be available for inspection during ordinary business hours at the Company's executive offices by stockholders of record for proper purposes. 2006 PROXY STATEMENT | 1

  • Page 28
    .... under the rules of the New York Stock Exchange ("NYSE") in effect at the time this Proxy Statement was printed, if you hold your shares through a broker, your broker is permitted to vote your shares on "routine" matters, which includes the election of directors and the ratification of the...

  • Page 29
    ... Africa Division from 1992 to 1994. In 1992, he was named Vice President, Texaco Inc. He is a director and Executive Committee member of both the u.S. Saudi Arabian Business Council and the American Petroleum Institute. Chairman of the Board and Chief Executive Officer of Baker Hughes Incorporated...

  • Page 30
    .../ Financial Management career field in 1970. General McCall is Chairman of the Board of Enterprise Bancorp Inc., a director of the Pentagon Federal Credit union Foundation and former Vice Chairman of the Board of Directors of the American Refugee Committee. Chairman of the Board and Chief Executive...

  • Page 31
    ..., of the Compensation, Finance and Governance Committees received an additional annual retainer of $5,000. Each nonmanagement director also received annual non-retainer equity in a total amount of $150,000, in the form of (i) restricted shares of the Company's Common Stock with a value of $100,000...

  • Page 32
    ... salary and bonus awards to key executives; recommending incentive compensation and stock award plans for approval by stockholders; and reviewing management succession plans. Governance Committee. The Governance Committee held three meetings during fiscal year 2006. The Board of Directors has...

  • Page 33
    ... Committee, Compensation Committee, or Finance Committee or with the non-management directors of the Company as a group, by sending such written communication to the Corporate Secretary, c/o Baker Hughes Incorporated, 2929 Allen Parkway, Suite 2100, Houston, TX 77019. The procedures for "Stockholder...

  • Page 34
    ...Common Stock as of March 1, 2007 by each director nominee, the persons named in the Summary Compensation Table below and the directors and executive officers as a group. The table includes transactions effected prior to the close of business on March 1, 2007. Shares Beneficially Owned Shares Subject...

  • Page 35
    ... level based on this evaluation and other relevant information; • reviewing and approving annually the individual elements of total compensation for the PEO, including annual salary, annual bonus and long-term incentive compensation, and reporting such determinations to the Board of Directors...

  • Page 36
    ... the Board of Directors regarding all employment agreements, severance agreements, change in control provisions and agreements and any special supplemental benefits applicable to the Company's Executives. assuring that the Company's incentive compensation program, including the annual and long-term...

  • Page 37
    ... results of our business. Furthermore, management uses operating profit internally as a measure of the performance of our operations. Baker Value Added Baker Value Added ("BVA") is a non-GAAP measure that supplements traditional accounting measures to evaluate the return on capital invested in the...

  • Page 38
    ...Data and evaluation of the Senior Executive's level of responsibility and experience as well as Company-wide performance. The Compensation Committee also considers the Senior Executive's success in achieving business results, promoting our core values and keys to success, improving health and safety...

  • Page 39
    ... Compensation Committee also considered the Company's continuing achievement of its short- and long-term goals to: • achieve specific EPS and BVA goals; • communicate strategy and financial results effectively; • increase emphasis on employee health and safety; and • develop human resource...

  • Page 40
    ... stock options, restricted stock, and performance units. In 2002, the Compensation Committee and our Board of Directors approved the Baker Hughes Incorporated 2002 Director & Officer long-Term Incentive Plan (the "2002 D&O Plan") for performance-related awards for Senior Executives. Our stockholders...

  • Page 41
    ... objective of the long-term incentive program is to strengthen the relationship between the long-term value of our stock price and the potential financial gain for employees. Stock options provide Senior Executives with the opportunity to purchase our Common Stock at a price fixed on the grant...

  • Page 42
    ...-term focus on capital employment; • develop human resource capability; • enable long-term growth opportunities; • motivate accurate financial forecasting; and • reward long-term goal achievement. Performance Plan for 2004 - 2006 and 2005 - 2007 In 2004 and 2005 the Compensation Committee...

  • Page 43
    ...long-Term Incentive Plan and the 2002 D&O Plan. We may from time to time pay compensation to our Senior Executives that may not be deductible, including discretionary bonuses or other types of compensation outside of our plans. Although the Compensation Committee has generally attempted to structure...

  • Page 44
    ... accounts as a percentage of eligible compensation. Eligible compensation generally means all wages, salaries and fees for services from the Company. The following are the quarterly pay crediting rates under the Pension Plan: Pay Credit as a Percentage of Quarterly Eligible Compensation Age at End...

  • Page 45
    ... of the 26-week short-term disability period, the long-term disability program provides income replacement at 60% of the benefits base pay level, up to a maximum of $25,000 per month, until age 65 or recovery per the terms and conditions of the program. • Executive Physical Program: At our expense...

  • Page 46
    .... Additional severance benefits payable to our PEO are addressed in his employment agreement discussed below. The Senior Executives are covered under a general severance plan known as the Baker Hughes Incorporated Executive Severance Plan (the "Severance Plan"). The Severance Plan is designed to...

  • Page 47
    ... from time to time by the Board of Directors or the Compensation Committee: • a base salary; • the opportunity to earn annual cash bonuses in amounts that may vary from year to year and that are based upon achievement of performance goals; • long-term incentives in the form of equity...

  • Page 48
    ...year in which he terminates employment based on the Highest Base Salary, prorated based upon the number of days of his service during the performance period (reduced by any payments received by the NEO under our Annual Incentive Compensation Plan, as amended, in connection with the Change in Control...

  • Page 49
    ... such board or other governing body is comprised of an odd number of directors); or • our stockholders approve a plan of complete liquidation or dissolution of us. The Code disallows deductions for certain executive compensation that is contingent on a change in ownership or effective control of...

  • Page 50
    ... from the Stock Ownership Policy can only be approved by the Compensation Committee or the PEO, and then only because of a personal hardship. Chief Executive Officer President, Senior Vice Presidents and Group Presidents Corporate Vice Presidents reporting to the PEO and Division Presidents 5x 3x...

  • Page 51
    ... the Company and its subsidiaries for the fiscal year ended December 31, 2006. Bonuses are paid under the Company's applicable incentive compensation guidelines and are generally paid in the year following the year in which the bonus is earned. Summary Compensation Table Change in Pension Value and...

  • Page 52
    ...of shares granted in 2006 for RSAs. Our practice is that the exercise price for each stock option is the market value on the date of grant. under our long-term incentive program, market value is the closing stock price on the day before the date of grant. Based upon the terms of the Company's Annual...

  • Page 53
    ... time-based awards and performancecontingent) assuming a market value of $74.66 a share (the closing market price of the Company's stock on December 29, 2006). Outstanding Equity Awards at Fiscal Year-End Table Option Awards Stock Awards Equity Incentive Plan Awards: Number of unearned Shares, units...

  • Page 54
    ... Plan Plan Plan Plan Plan Plan 2 0 Retired 5 5 5 5 23,919 7,805 0(1) 47,139 47,093 47,102 45,916 0 0 0 0 0 0 0 Mr. Finley retired on April 30, 2006 before becoming fully vested under the Pension Plan and will not receive any benefit under the Pension Plan. 28 | BAkER HuGHES INCORPORATED

  • Page 55
    ... or by us without cause, we will pay him: a. a lump sum cash payment in an amount equal to two times his then base salary; b. a lump sum cash payment equal to the expected value of his incentive bonus opportunity under our Annual Incentive Plan for the year of termination, prorated to the date of...

  • Page 56
    ... 31, 2006 prior to Mr. Deaton's termination of employment with us, we would have paid Mr. Deaton, in cash, the aggregate sum of $3,738,980 in complete settlement of his performance awards granted by us under the 2002 D&O Plan on January 1, 2004 and January 1, 2005. 30 | BAkER HuGHES INCORPORATED

  • Page 57
    ...410, the aggregate exercise price for the options). The substantial risk of forfeiture restrictions applicable to 33,659 shares of our stock granted to Mr. Ragauss would have lapsed on December 31, 2006, if a Change of Control were to have occurred on that date. The maximum value of this accelerated...

  • Page 58
    ... prior to the Change in Control which is material to his total compensation; or (vi) our failure to continue to provide the NEO with benefits substantially similar to those enjoyed by him under any of our pension, savings, life insurance, medical, health and accident, or disability plans in which he...

  • Page 59
    ... the year in which he terminates employment multiplied by his highest base salary, prorated based upon the number of days of his service during the performance period (reduced by any payments received by the NEO under the Company's Annual Incentive Plan, as amended, in connection with the Change in...

  • Page 60
    ... severance program, the Baker Hughes Incorporated Executive Severance Plan (the "Executive Severance Plan") for our executives who are classified by us as united States executive salary grade system employees, including the NEOs. The Executive Severance Plan provides for payment of certain benefits...

  • Page 61
    ... the entity that acquired such assets in such asset sale or its parent (or a majority plus one member where such board or other governing body is comprised of an odd number of directors); or our stockholders approve a plan of complete liquidation or dissolution of us. 2006 PROXY STATEMENT | 35

  • Page 62
    ... 2002 D&O Plan Change in Control which is material to his total compensation; or (vi) our failure to continue to provide the NEO with benefits substantially similar to those enjoyed by him under any of our pension, savings, life insurance, medical, health and accident, or disability plans in which...

  • Page 63
    ...of our affiliates sold a business unit, (ii) on December 31, 2006, Mr. Clark's employment with us terminated in connection with the sale and (iii) the sale did not constitute a 2002 D&O Plan Change in Control. The maximum value of this accelerated vesting of Mr. Clark's restricted stock awards would...

  • Page 64
    ... outstanding restricted stock awards granted by us would have become fully vested and nonforfeitable. For this purpose a NEO is treated as having incurred a disability if he qualifies for long-term disability benefits under our long-term disability program. For each NEO, the number of shares with...

  • Page 65
    ...our affiliates sold a business unit of us or one of our affiliates and on December 31, 2006 the NEO's employment with us terminated in connection with the sale (other than for cause as defined in the 2002 D&O Plan), and the sale did not constitute a 2002 D&O Plan Change in Control, at the end of the...

  • Page 66
    ... plan. If the NEO had terminated employment with us on December 31, 2006 due to disability or death we would have paid him in a single sum in cash the amount specified above under the heading "Pro Rata Payment of Performance unit Awards upon a Change in Control". 40 | BAkER HuGHES INCORPORATED

  • Page 67
    ... base thrift deferral account, company pension deferral account and company discretionary deferral account under the SRP without regard to his tenure with us. For this purpose, a NEO has a disability if he is eligible for benefits under our long-term disability plan. We estimate that the value of...

  • Page 68
    ..., 2006 at an exercise price of $80.73 and a FAS 123(R) value of $28.54 per share. For both stock and stock option grants, the value shown is what is also included in the Company's financial statements per FAS 123(R). See the Company's Annual Report for the year ended December 31, 2006 for a complete...

  • Page 69
    ... Audit/Ethics Committee assists the Board of Directors in overseeing matters relating to the accounting and reporting practices of the Company, the adequacy of the Company's disclosure controls and internal controls, the quality and integrity of the quarterly and annual financial statements of the...

  • Page 70
    ... quarterly financial statements, audit of Management's Report on Internal Controls as required by Section 404 of SOX and audit services related to the effectiveness of the Company's internal control over financial reporting. Tax fees are primarily for the preparation of income, payroll, value added...

  • Page 71
    ...proxy relating to that meeting. Such proposals should be mailed to the Corporate Secretary, c/o Baker Hughes Incorporated 2929 Allen Parkway, Suite 2100, Houston, Texas 77019. Nominations of directors by stockholders must be received by the Chairman of the Governance Committee of the Company's Board...

  • Page 72
    ... company's compensation committee is not "independent" until three years after the end of such service or the employment relationship. 5. A director who is an executive officer or an employee, or whose immediate family member is an executive officer, of a company that makes payments to, or receives...

  • Page 73
    ...'s financial statements, or experience actively supervising one or more persons engaged in such activities; (d) An understanding of internal controls and procedures for financial reporting; and (e) An understanding of audit committee functions. 2. under SEC rules, a director must have acquired such...

  • Page 74
    ... • Receive and review reports from the independent auditors pursuant to the Sarbanes-Oxley Act of 2002 ("SOX") and Section 10(A)(k) of the Exchange Act regarding: (i) all critical accounting policies and practices used; (ii) all alternative The Board of Directors of Baker Hughes Incorporated (the...

  • Page 75
    ... to the Chairman of the Committee the authority to review any such earnings releases and guidance. Review with the Board of Directors any issues that arise with respect to the quality or integrity of the Company's financial statements and financial reporting system, the Company's compliance with...

  • Page 76
    ... senior management. Review annually the audit of the travel expenses of the members of the Company's Board of Directors. At least every five years the Committee reviews the report received from a qualified, independent audit firm regarding its quality assurance review of the Company's internal audit...

  • Page 77
    ..., sound business judgment and support for the Core Values of the Company; (g) understand basic financial statements; (h) Are independent as defined by the Securities and Exchange Commission ("SEC") and the New York Stock Exchange; (i) Support the ideals of the Company's Business Code of Conduct and...

  • Page 78
    ... Committee, Compensation Committee, Finance Committee or with the non-management directors of the Company as a group, by sending such written communication to the following address: Corporate Secretary c/o Baker Hughes Incorporated 2929 Allen Parkway, Suite 2100 Houston, TX 77019-2118 Stockholders...

  • Page 79
    ... applicable if: (1) The Board of Directors of the Corporation by a vote of not less than 75% of the directors then holding office (a) have expressly approved in advance the acquisition of outstanding shares of Voting Stock of the Corporation that caused the Related Person to become a Related Person...

  • Page 80
    ...pursuant to which such person became a Related Person and the cash or fair market value of the property, securities or other consideration to be received per share by holders of Common Stock of the Corporation in the Business Combination is not less than the highest per share price (with appropriate...

  • Page 81
    ... The term "Substantial Part" shall mean more than 10% of the book value of the total assets of the Corporation in question as of the end of its most recent fiscal year ending prior to the time the determination is being made. (v) Without limitation, any shares of Common Stock of the Corporation that...

  • Page 82
    ...recently completed second fiscal quarter (based on the closing price on June 30, 2006 reported by the New York Stock Exchange) was approximately $26,970,000,000. As of February 22, 2007, the registrant has outstanding 320,240,728 shares of common stock, $1 par value per share. DOCuMENTS INCORPORATED...

  • Page 83
    .... Directors, Executive Officers and Corporate Governance ...Executive Compensation ...Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters...Certain Relationships and Related Transactions, and Director Independence ...Principal Accountant Fees and Services...

  • Page 84
    ... following address or telephone number: Baker Hughes Incorporated 2929 Allen Parkway, Suite 2100 Houston, Texas 77019-2118 Attention: Investor Relations Telephone: (713) 439-8039 Information contained on or connected to our website is not incorporated by reference into this annual report on Form 10...

  • Page 85
    ... used to drill multiple wells. The main driver of customer purchasing decisions in drill bits is the value added, usually measured in terms of savings in total operating costs per distance drilled. Specific opportunities for competitive differentiation include: • improving the rate of penetration...

  • Page 86
    .... Baker Atlas' services allow oil and natural gas companies to define, manage and reduce their exploration and production risk. As such, the main driver of customer purchasing decisions is the value added by formation evaluation and wireline completion and production services. Specific opportunities...

  • Page 87
    ...purchasing decisions in wellbore construction, cased-hole completions, sand control and wellbore intervention are superior wellsite service execution and value-adding technologies that improve production rates, protect the reservoir from damage and reduce cost. Specific opportunities for competitive...

  • Page 88
    ... of a pipeline to ensure proper mitigation programs are in place. The main driver of customer purchasing decisions in specialty chemicals is superior application of technology and service delivery. Specific opportunities for competitive differentiation include: • higher levels of production or...

  • Page 89
    ... system, product reliability, functionality and local field support. Specific opportunities for competitive differentiation include: • the ability to provide application engineering and economic return analysis, • innovative products, • gauge measurement accuracy, 6 | BAkER HuGHES INCORPORATED...

  • Page 90
    ... in 1998 as Assistant to the Group Chief Executive until 2000 when he became Chief Executive Officer of Air BP. Served as Vice President of Finance and Portfolio Management for Amoco Energy International immediately prior to its merger with BP in 1998. Employed by the Company in 2006. Alan R. Crain...

  • Page 91
    ... Vice President of Worldwide Operations for Baker Atlas from 2003 to 2005 and Vice President, Marketing and Business Development for Baker Atlas from 2001 to 2003; Region Manager for Baker Atlas in latin America and Asia and Region Manager for E&P Solutions from 1995 to 2001. Employed by the Company...

  • Page 92
    ...2006. Vice President of Manufacturing and Technology, Hughes Christensen from 2004 to 2006. Senior Vice President of Supply Chain Operations, Dresser Flow Solutions 2003. President, Dresser Measurement and Control from 2002 to 2003 and Senior Vice President from 2001 to 2002. Chief Executive Officer...

  • Page 93
    ... insufficient information is available to estimate the potential cost to the Company. (h) In 2006, a settlement demand was received from the PRP Group for the Pulvair Superfund site located in Millington, Tennessee for waste sent to the site by Milchem, a predecessor to Baker Hughes Drilling Fluids...

  • Page 94
    ... affect our business, financial condition, results of operations and cash flows and, thus, the value of an investment in our Company. Risk Factors Related to the Worldwide Oil and Natural Gas Industry Our business is focused on providing products and services to the worldwide oil and natural...

  • Page 95
    ... national oil companies, our ability to manage 12 | BAkER HuGHES INCORPORATED warranty claims and our ability to effectively manage our commercial agents can also impact our results of operations. Managing development of competitive technology and new product introductions on a forecasted schedule...

  • Page 96
    ... or issue, new debt financing. Our ability to forecast the size of and changes in the worldwide oil and natural gas industry and our ability to forecast our customers' activity levels and demand for our products and services impacts our management of our manufacturing and distribution activities...

  • Page 97
    ...manufacturing facilities are well maintained and suitable for their intended purposes. The table below shows our principal manufacturing plants by segment and geographic area: Canada and South America Segment united States Europe Far East Total Completion and Production Drilling and Evaluation...

  • Page 98
    ... maintain a system of internal accounting controls sufficient to provide reasonable assurances that: (i) transactions are executed in accordance with management's general or specific authorization; and (ii) transactions are recorded as necessary: (I) to permit preparation of financial statements in...

  • Page 99
    ... high and low sales prices on the New York Stock Exchange for our common stock during the two years ended December 31, 2006, and information regarding dividends declared on our common stock during the two years ended December 31, 2006, see Note 17 of the Notes to Consolidated Financial Statements...

  • Page 100
    ... of total return on investment (change in year-end stock price plus reinvested dividends) assumes that $100 was invested on December 31, 2001 in Baker Hughes common stock, the S&P 500 Index and the S&P Oil and Gas Equipment and Services Index. The Corporate Performance Graph and related information...

  • Page 101
    ... of accounting change Cumulative effect of accounting change, net of tax Net income Per share of common stock: Income from continuing operations: Basic Diluted Dividends Balance Sheet Data: Cash, cash equivalents and short-term investments Working capital Total assets long-term debt Stockholders...

  • Page 102
    ...: North America; latin America; Middle East and Asia Pacific; and Europe, Africa, Russia and the Caspian. Each region has a council comprised of regional vice presidents from each division as well as representatives from various functions such as human resources, legal, marketing and health, safety...

  • Page 103
    ... operate in over 90 countries around the world and employ approximately 34,600 employees - about one-half of which work outside the u.S. During 2006, the Baker Hughes worldwide rig count continued to increase, as oil and natural gas companies around the world recognized the need to build productive...

  • Page 104
    ...strong in China and developing Asia. Worldwide spare productive capacity remained at historically low levels, and the potential for supply disruptions contributed to price volatility. Natural gas prices averaged $6.73/mmBtu for the year 2006. In early January 2006, a tight balance between supply and...

  • Page 105
    ... below as averages for each of the periods indicated. 2006 2005(1) 2004(1) u.S. - land and inland waters u.S. - offshore Canada North America latin America North Sea Other Europe Africa Middle East Asia Pacific Outside North America Worldwide u.S. Workover Rigs (1) 1,559 90 471 2,120 324 49 28 58...

  • Page 106
    ...") survey for 2006. We devote significant resources to the development, maintenance and enforcement of our Business Code of Conduct policy, our Foreign Corrupt Practices Act (the "FCPA") policy, our internal control processes and procedures and other compliance related policies. Notwithstanding the...

  • Page 107
    development and production take place and in which we are requested to conduct operations. Compliance related issues could limit our ability to do business in these countries. In order to provide products and services in some of these countries, we may in the future utilize ventures with third ...

  • Page 108
    ... in the business cycle in certain countries and changes in local country law. The ultimate realization of the deferred tax assets depends on the generation of sufficient taxable income in the applicable taxing jurisdictions. We operate in more than 90 countries under many legal forms. As a result...

  • Page 109
    ... a plan to sell the Baker Supply Products Division ("Baker SPD"), a product line group within the Completion and Production segment, which distributes basic supplies, products and small tools to the drilling industry. In March 2006, we completed the sale of Baker SPD and received cash proceeds...

  • Page 110
    ... 55.7% of total revenues, increased 21.5% for 2006 compared with 2005. This increase reflects the improvement in international drilling activity, as evidenced by the 8.7% increase in the rig count outside North America, particularly in the Middle East, Africa and the North Sea, coupled with pricing...

  • Page 111
    ...value of the costs associated with the special handling of asbestos related materials in certain facilities. Liquidity And Capital Resources Our objective in financing our business is to maintain adequate financial resources and access to additional liquidity. During 2006, cash flows from operations...

  • Page 112
    ... in capital assets in 2006 is a result of increased demand for our products and services. During 2006, we paid $66.2 million for acquisitions of businesses, net of cash acquired. In the first quarter of 2006, we acquired Nova Technology Corporation ("Nova") for $55.4 million, net of cash acquired of...

  • Page 113
    ... of $58.17 per share, for a total of $98.5 million. In April 2006, the Board of Directors authorized the repurchase of 30 | BAkER HuGHES INCORPORATED an additional $1.8 billion of common stock. During 2006, we repurchased 24.3 million shares of our common stock at an average price of $76.50 per...

  • Page 114
    ... paying dividends of between $165.0 million and $170.0 million in 2007; however, the Board of Directors can change the dividend policy at anytime. In the u.S., we merged two pension plans effective January 1, 2007, resulting in one tax-qualified u.S. pension plan, the Baker Hughes Incorporated...

  • Page 115
    ... the changes occur through comprehensive income. Additionally, it requires an employer to measure the funded status of a plan as of the date of its year end statement of financial position, with limited exceptions. SFAS 158 is effective as of the end of the fiscal year ending after December 15, 2006...

  • Page 116
    ... our business outlook, including changes in revenue, pricing, capital spending, profitability, strategies for our operations, impact of any common stock repurchases, final resolution of pending government investigations, oil and natural gas market conditions, market share and contract terms, costs...

  • Page 117
    ... We conduct operations around the world in a number of different currencies. A number of our significant foreign subsidiaries have designated the local currency as their functional currency. As such, future earnings are subject to change due to fluctuations in foreign currency exchange rates when...

  • Page 118
    ... public accounting firm, as stated in their report which is included herein. Chad C. Deaton Chairman and Chief Executive Officer Peter A. Ragauss Senior Vice President and Chief Financial Officer Alan J. keifer Vice President and Controller Houston, Texas February 21, 2007 2006 FORM 10...

  • Page 119
    ...ACCOUNTING FIRM To the Board of Directors and Stockholders of Baker Hughes Incorporated Houston, Texas We have audited management's assessment, included in the accompanying Management's Report on Internal Control Over Financial Reporting, that Baker Hughes Incorporated and subsidiaries (the "Company...

  • Page 120
    ... ACCOUNTING FIRM To the Board of Directors and Stockholders of Baker Hughes Incorporated Houston, Texas We have audited the accompanying consolidated balance sheets of Baker Hughes Incorporated and subsidiaries (the "Company") as of December 31, 2006 and 2005, and the related consolidated statements...

  • Page 121
    CONSOLIDATED STATEMENTS OF OPERATIONS Year Ended December 31, (In millions, except per share amounts) 2006 2005 2004 Revenues: Sales Services and rentals Total revenues Costs and expenses: Cost of sales Cost of services and rentals Research and engineering Selling, general and administrative Total ...

  • Page 122
    ... liabilities of discontinued operations Total current liabilities long-term debt Deferred income taxes and other tax liabilities liabilities for pensions and other postretirement benefits Other liabilities Stockholders' Equity: Common stock, one dollar par value (shares authorized - 750.0; issued...

  • Page 123
    ... of common stock pursuant to employee stock plans Tax benefit on stock plans Stock-based compensation Repurchase and retirement of common stock Cash dividends ($0.52 per share) Balance, December 31, 2006 See Notes to Consolidated Financial Statements 40 | BAkER HuGHES INCORPORATED $ 332.0 $ 2,998...

  • Page 124
    ... of common stock Dividends Excess tax benefits from stock based compensation Net cash flows from financing activities Effect of foreign exchange rate changes on cash Increase in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year Income taxes...

  • Page 125
    ... gas industry and provides products and services for drilling, formation evaluation, completion and production of oil and natural gas wells. Basis of Presentation The consolidated financial statements include the accounts of Baker Hughes and all majority owned subsidiaries ("Company," "we," "our" or...

  • Page 126
    ... the purchase in exchange for a replacement product, repair at no cost to the customer or the issuance of a credit to the customer. We accrue amounts for estimated warranty claims based upon current and historical product sales data, warranty costs incurred and any other related information known to...

  • Page 127
    ... to measure plan assets and benefit obligations as of the date of the employer's fiscal year end statement of financial position is effective for fiscal years ending after December 15, 2008. We adopted all requirements of SFAS 158 on December 31, 2006, except for the funded status 44 | BAkER HuGHES...

  • Page 128
    ... a plan to sell the Baker Supply Products Division ("Baker SPD"), a product line group within the Completion and Production segment, which distributes basic supplies, products and small tools to the drilling industry. In March 2006, we completed the sale of Baker SPD and received cash proceeds...

  • Page 129
    ... In January 2006, we acquired Nova Technology Corporation ("Nova") for $55.4 million, net of cash acquired of $3.0 million, plus assumed debt. Nova is a supplier of permanent monitoring, chemical injection systems, and multi-line services for deepwater and subsea oil and gas well applications. As...

  • Page 130
    ...on net income and earnings per share for the years ended December 31, 2005 and 2004 if we had recognized compensation expense by applying the fair value based method to all awards as provided for under SFAS 123: Pro Forma 2005 Pro Forma 2004 Net income, as reported Add: Stock-based compensation for...

  • Page 131
    ... at the time the options were granted. The dividend yield is based on our history of dividend payouts. 2006 Actual 2005 Pro Forma 2004 Pro Forma Expected life (years) 5.0 Risk-free interest rate 4.8% Volatility 31.1% Dividend yield 0.7% Weighted average fair value per share at grant date $ 26...

  • Page 132
    ... for the year ended December 31, 2006 was calculated using the Black-Scholes option pricing model with the following assumptions: 2006 Actual 2005 Pro Forma 2004 Pro Forma Expected life (years) Interest rate Volatility Dividend yield Weighted average fair value per share at grant date 1.0 4.4% 28...

  • Page 133
    ... historical daily prices based on the expected life of the stock purchase plan. The riskfree interest rate is based on the observed u.S. Treasury yield curve in effect at the time the ESPP shares were granted. The dividend yield is based on our history of dividend payouts. Note 5. Sale of Interest...

  • Page 134
    ... income taxes and other tax liabilities, as reflected in the consolidated balance sheets, are $300.2 million Deferred tax assets: Receivables Inventory Property Employee benefits Other accrued expenses Operating loss carryforwards Tax credit carryforwards Capitalized research and development...

  • Page 135
    ... 4.6 - (0.2) $ 909.2 (5.0) 0.7 $ 437.8 (5.0) 0.5 $1,347.0 Note 8. Inventories Inventories are comprised of the following at December 31: 2006 2005 Finished goods Work in process Raw materials Total $ 1,239.5 188.0 101.3 $ 1,528.8 $ 914.5 134.2 77.6 $ 1,126.3 52 | BAkER HuGHES INCORPORATED

  • Page 136
    ... 31: 2006 Gross Carrying Amount Accumulated Amortization Gross Carrying Amount 2005 Accumulated Amortization Net Net Technology based Contract based Marketing related Customer based Other Total amortizable intangible assets Marketing related intangible assets with an indefinite useful life Total...

  • Page 137
    ... of our business is conducted with major companies within the industry. We perform periodic credit evaluations of our customers' financial condition and generally do not require collateral for our accounts receivable. In some cases, we will require payment in advance or security in the form of...

  • Page 138
    ... Baker Petrolite (oilfield specialty chemicals) and Centrilift (electrical submersible pumps and progressing cavity pumps) divisions and the ProductionQuest business unit. The Completion and Production segment provides equipment and services used from the completion phase through the productive life...

  • Page 139
    ..., the Baker Hughes Incorporated Pension Plan ("BHIPP"). under the provisions of BHIPP, a hypothetical cash balance account is established for each participant. Such accounts receive pay credits on a quarterly basis. The quarterly pay credit is based on a percentage according to the employee's age on...

  • Page 140
    ... of year Service cost Interest cost Actuarial (gain) loss Benefits paid Plan amendments Curtailments/settlements (gain) loss Other Exchange rate adjustments Benefit obligation at end of year Change in plan assets: Fair value of plan assets at beginning of year Actual return on plan assets Employer...

  • Page 141
    ... of compensation increase 6.0% 4.0% 5.5% 4.0% 5.0% 3.9% 4.9% 3.4% 6.0% n/a 5.5% n/a The development of the discount rate for our u.S. plans was based on a bond matching model whereby a hypothetical bond portfolio of high-quality, fixed-income securities is selected that will match the cash...

  • Page 142
    ... net periodic benefit costs for these plans are as follows for the years ended December 31: u.S. Pension Benefits 2006 2005 2004 Non-u.S. Pension Benefits 2006 2005 2004 Other Postretirement Benefits 2006 2005 2004 Discount rate Expected rate of return on plan assets Rate of compensation increase...

  • Page 143
    ... retirement plan ("SRP") for certain officers and employees whose benefits under the Thrift Plan and/or the u.S. defined benefit pension plan are limited by federal tax law. The SRP also allows the eligible employees to defer a portion of their eligible compensation and provides for employer...

  • Page 144
    ... in the Southern District of New York regarding goods and services we delivered to Iraq from 1995 through 2003 during the united Nations Oil-for-Food Program. In 2004, we also received a request from the SEC to provide a written statement and certain information regarding our participation in that...

  • Page 145
    ... consolidated statement of operations information is as follows for the years ended December 31: 2006 2005 2004 Rental expense (generally transportation equipment and warehouse facilities) $ Research and development 161.0 216.2 $ 138.7 188.2 $ 123.5 176.7 62 | BAkER HuGHES INCORPORATED

  • Page 146
    ... Annual Report on Form 10-k for the fiscal year ended December 31, 2006. Our management's assessment of the effectiveness of our internal control over financial reporting as of December 31, 2006 has been audited by Deloitte & Touche llP, an independent registered public accounting firm, as stated...

  • Page 147
    ...Director Compensation Deferral Plan. A description of each of these plans is set forth below. The per share purchase price under the Baker Hughes Incorporated Employee Stock Purchase Plan is determined in accordance with section 423 of the Code as 85% of the lower of the fair market value of a share...

  • Page 148
    ... than 3.0 million available for grant as awards other than options (the number of shares is subject to adjustment for changes in our common stock). The 2002 Employee lTIP is the companion plan to the Baker Hughes Incorporated 2002 Director & Officer longTerm Incentive Plan, which was approved by...

  • Page 149
    ... the 2002 Employee lTIP on the terms and conditions determined by the Compensation Committee. The grant price of a freestanding stock appreciation right will not be less than the fair market value of our common stock on the date of grant. The maximum number of shares of our common stock that may...

  • Page 150
    ... 31, 2006). 4.5 Indenture dated as of May 15, 1994 between Western Atlas Inc. and The Bank of New York, Trustee, providing for the issuance of securities in series (filed as Exhibit 4.4 to Annual Report of Baker Hughes Incorporated on Form 10-k for the year ended December 31, 2004). 10.1+ Employment...

  • Page 151
    ... between Baker Hughes Incorporated and each of the directors and executive officers (filed as Exhibit 10.4 to Annual Report of Baker Hughes Incorporated on Form 10-k for the year ended December 31, 2003). 10.14+ Baker Hughes Incorporated Director Retirement Policy for Certain Members of the Board of...

  • Page 152
    ... Employee Benefits Agreement dated October 31, 1997, between Western Atlas Inc. and uNOVA Inc. (filed as Exhibit 10.32 to Annual Report of Baker Hughes Incorporated on Form 10-k for the year ended December 31, 2003). 10.51 Master Formation Agreement by and among the Company, Schlumberger limited and...

  • Page 153
    ..., the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. BAkER HuGHES INCORPORATED Date: February 23, 2007 /s/CHAD C. DEATON Chad C. Deaton Chairman of the Board and Chief Executive Officer kNOWN All PERSONS BY THESE PRESENTS, that each...

  • Page 154
    ... Charged to Other Accounts(3) Balance at End of Period (In millions) Write-offs(2) Year ended December 31, 2006: Reserve for doubtful accounts receivable Reserve for inventories Year ended December 31, 2005: Reserve for doubtful accounts receivable Reserve for inventories Year ended December 31...

  • Page 155
    ... of the board. The sole inside director is Chad C. Deaton, Chairman and Chief Executive Officer of Baker Hughes. Director H. John Riley serves as the lead Director. Directors are elected annually. Non-management directors cannot stand for re-election at the annual meeting of stockholders following...

  • Page 156
    ... and profitability, and that executive compensation supports both company and stockholder interests; • reviews our long-term equity incentive plans (and makes grants thereunder), employee retirement income plans, the employee thrift plan and the employee stock purchase plan; • annually approves...

  • Page 157
    ...of Board Members ...www.bakerhughes.com/investor/about/bod.htm Biographies of Executive Officers ...www.bakerhughes.com/investor/about/management.htm Ownership Structure Investors Source Shares (millions) % of Total Capital Fidelity Management Dodge & Cox Goldman Sachs T. Rowe Price Barclays State...

  • Page 158
    ...BHI" New York Stock Exchange, Inc. SWX Swiss Exchange Investor Relations Office Gary R. Flaharty Director, Investor Relations Baker Hughes Incorporated P.O. Box 4740 Houston, Texas 77210-4740 [email protected] Form 10-K Additional copies of the company's Annual Report to the Securities and Exchange...

  • Page 159
    Baker Hughes Incorporated 2929 Allen Parkway, Suite 2100 Houston, Texas 77019-2118 P.O. Box 4740 Houston, TX 77210-4740 (713) 439-8600 www.bakerhughes.com