UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

~~Washington, D.C. 20549~~ Form 10-Q

FORM 10-Q


(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the quarterly period ended June 30, 2010
		OR
o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the transition period from to

(Mark One)

þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2010

o 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 incorporation or organization)		(I.R.S. Employer Identification No.)
1310 Rankin Road		77073
1310 Rankin Road Houston, Texas (Address of principal executive offices)		77073 (Zip Code)
Houston, Texas		(Zip Code)
(Address of principal executive offices)

(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 þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer þ	Accelerated filer o	Non-accelerated filer o	Smaller reporting company o
(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

There were 248,~~507~~583,~~612~~ 517 shares of common stock outstanding, net of treasury shares held, on ~~April~~August 263, 2010.

INDEX

	~~Page~~		Page
	~~No.~~		No.
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Item 1.	Financial Statements (Unaudited)			3
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS For the Three Months ended March 31, 2010 and 2009		3
	CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS For the Three Months and Six Months Ended June 30, 2010 and 2009			3
CONSOLIDATED CONDENSED BALANCE SHEETS As of March 31, 2010 and December 31, 2009		4
	CONSOLIDATED CONDENSED BALANCE SHEETS As of June 30, 2010 and December 31, 2009			4
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS For the Three Months ended March 31, 2010 and 2009		5
	CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS For the Six Months Ended June 30, 2010 and 2009			5
CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Three Months ended March 31, 2010 and 2009		6
	CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Six Months Ended June 30, 2010 and 2009			6
~~NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS~~	NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS	7		7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.		18
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations			21
Item 3. Quantitative and Qualitative Disclosures about Market Risk		28
Item 3.	Quantitative and Qualitative Disclosures about Market Risk			35
Item 4. Controls and Procedures		28
Item 4.	Controls and Procedures			35
PART II — OTHER INFORMATION
Item 1. Legal Proceedings		28
Item 1.	Legal Proceedings			35
Item 1A. Risk Factors		29
Item 1A.	Risk Factors			36
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		34
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds			43
Item 6. Exhibits		35
Item 3.	Defaults upon Senior Securities			43
SIGNATURES		36
Item 4.	Removed and Reserved			43
EXHIBIT INDEX		37
Item 5.	Other Information			43
Item 6.	Exhibits			44
SIGNATURES				45
EXHIBIT INDEX				46
EX-31.1
EX-31.2
EX-32.1
EX-101 INSTANCE DOCUMENT
EX-101 SCHEMA DOCUMENT
EX-101 CALCULATION LINKBASE DOCUMENT
EX-101 LABELS LINKBASE DOCUMENT
EX-101 PRESENTATION LINKBASE DOCUMENT
EX-101 DEFINITION LINKBASE DOCUMENT

PART I — FINANCIAL INFORMATION


Item 1.	*Financial Statements*

SMITH INTERNATIONAL, INC.

CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS ~~(In thousands, except per share data) (Unaudited)~~

	Three Months Ended						Six Months Ended
	March 31,
	June 30,						June 30,
	2010			2009			2010			2009
Revenues:
	(Unaudited)
Oilfield operations	$	1,686,021		$	1,841,737
	(In thousands, except per share data)
Distribution operations		451,790			569,742
Revenues:
Total revenues		2,137,811			2,411,479
Oilfield operations	$	1,805,751		$	1,533,483		$	3,491,772		$	3,375,220
Costs and expenses:
Distribution operations		490,312			410,806			942,102			980,548
Cost of oilfield revenues		1,161,161			1,229,191
Total revenues		2,296,063			1,944,289			4,433,874			4,355,768
Cost of distribution revenues		385,470			489,986
Costs and expenses:
Selling, general and administrative expenses		466,301			450,624
Cost of oilfield revenues		1,224,807			1,052,644			2,385,968			2,281,835
Total costs and expenses		2,012,932			2,169,801
Cost of distribution revenues		412,587			362,615			798,057			852,601
Operating income		124,879			241,678
Selling, general and administrative expenses		467,216			395,726			933,517			846,350
Interest expense		37,722			27,524
Total costs and expenses		2,104,610			1,810,985			4,117,542			3,980,786
Interest income		(678	)		(358	)
Operating income		191,453			133,304			316,332			374,982
Income before income taxes		87,835			214,512
Interest expense		36,917			42,803			74,639			70,327
Income tax provision		41,239			70,318
Interest income		(890	)		(729	)		(1,568	)		(1,087	)
Net income		46,596			144,194
Income before income taxes		155,426			91,230			243,261			305,742
Noncontrolling interests in net income of subsidiaries		35,055			47,259
Income tax provision		50,229			27,957			91,468			98,275
Net income attributable to Smith	$	11,541		$	96,935
Net income		105,197			63,273			151,793			207,467
Earnings per share:
Noncontrolling interests in net income of subsidiaries		40,123			38,887			75,178			86,146
Basic	$	0.05		$	0.44
Net income attributable to Smith	$	65,074		$	24,386		$	76,615		$	121,321
Diluted		0.05			0.44
Earnings per share:
Weighted average shares outstanding:
Basic	$	0.26		$	0.11		$	0.31		$	0.55
Basic		248,360			219,201
Diluted		0.26			0.11			0.31			0.55
Diluted		249,761			219,603
Weighted average shares outstanding:
Basic		248,539			219,307			248,450			219,254
Diluted		250,333			220,245			250,059			219,925

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

CONSOLIDATED CONDENSED BALANCE SHEETS ~~(In thousands, except par value data) (Unaudited)~~

	March 31,			December 31,
	June 30,			December 31,
	2010			2009
Assets
	(Unaudited)
	(In thousands, except par value data)
ASSETS
Current Assets:
Cash and cash equivalents	$	~~547~~497,~~775~~660		$	988,346
Receivables, net		1,~~917~~930,~~994~~784			1,791,498
Inventories, net		1,~~823~~880,~~950~~623			1,820,355
Deferred tax assets, net		7190,~~832~~289			65,667
Prepaid expenses and other		~~144~~164,~~608~~320			149,370
Total current assets		4,~~506~~563,~~159~~676			4,815,236
Property, plant and equipment, net		1,~~921~~972,~~950~~242			1,923,465
Goodwill, net		3,~~074~~131,~~555~~840			3,068,828
Other intangible assets, net		~~592~~624,~~998~~260			614,086
Other assets		~~307~~288,~~050~~713			317,800
Total assets	$	10,~~402~~580,~~712~~731		$	10,739,415
Liabilities and Stockholders’ Equity
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Short-term borrowings and current portion of long-term debt	$	~~486~~316,~~360~~549		$	358,768
Accounts payable		~~666~~693,~~422~~556			589,748
Accrued payroll costs		~~147~~172,~~741~~709			146,364
Income taxes payable		89109,~~878~~072			82,260
Other		~~204~~260,~~521~~170			233,649
Total current liabilities		1,~~594~~552,~~922~~056			1,410,789
Long-term debt		1,~~316~~481,~~589~~927			1,814,254
Deferred tax liabilities		~~506~~502,~~493~~520			533,537
Other long-term liabilities		~~151~~152,~~979~~525			150,905
Commitments and contingencies (Note 15)
Stockholders’ Equity:
Preferred stock, $1 par value; 5,000 shares authorized; no shares issued or outstanding in 2010 or 2009		—			—
Common stock, $1 par value; 500,000 shares authorized; 266,430 shares issued in 2010 (266,125 shares issued in 2009)		266,430			266,125
Common stock, $1 par value; 500,000 shares authorized; 266,531 shares issued in 2010 (266,125 shares issued in 2009)		266,531			266,125
Additional paid-in capital		2,~~720~~735,~~006~~089			2,706,564
Retained earnings		2,~~907~~942,~~198~~446			2,925,467
Accumulated other comprehensive income		6(14,~~456~~158	)		24,115
Less — Treasury securities, at cost; 17,954 common shares in 2010 (17,891 common shares in 2009)		(483,709	)		(481,704	)
Less — Treasury securities, at cost; 17,956 common shares in 2010 (17,891 common shares in 2009)		(483,769	)		(481,704	)
Smith stockholders’ equity		5,~~416~~446,~~381~~139			5,440,567
Noncontrolling interests in subsidiaries		1,~~416~~445,~~348~~564			1,389,363
Total stockholders’ equity		6,~~832~~891,~~729~~703			6,829,930
Total liabilities and stockholders’ equity	$	10,~~402~~580,~~712~~731		$	10,739,415

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS ~~(In thousands) (Unaudited)~~

	Three Months Ended
	Six Months Ended June 30,
	March 31,
	2010			2009
	(Unaudited)
	(In thousands)
Cash flows from operating activities:
Net income	$	46151,~~596~~793		$	~~144~~207,~~194~~467
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		94190,~~084~~510			91182,~~095~~807
LIFO inventory reserves		(48,~~669~~458	)		(74,~~622~~969	)
Share-based compensation expense		1224,~~147~~183			1223,~~354~~139
Deferred income tax provision		(1640,~~808~~805	)		138,~~779~~286
Provision for losses on receivables		25,~~008~~611			57,~~020~~346
Foreign currency transaction (gain) loss		2439,~~289~~388			(95,~~514~~611	)
Gain on disposal of property, plant and equipment		(718,~~651~~028	)		(1122,~~653~~364	)
Equity earnings, net of dividends received		(53,~~355~~227	)		(26,~~976~~549	)
Gain on remeasurement of equity interest in @Balance B.V.		(20,773	)		—
Changes in operating assets and liabilities:
Receivables		(~~142~~171,~~019~~692	)		~~155~~518,~~004~~720
Inventories		(376,~~815~~397	)		78266,~~109~~775
Accounts payable		78112,~~460~~350			(~~206~~384,~~066~~502	)
Other current assets and liabilities		~~(28~~38,~~853~~502	)		(53117,~~614~~778	)
Other non-current assets and liabilities		~~4,575~~(885	)		(1031,~~353~~451	)
Net cash provided by operating activities		52222,~~989~~072			~~197~~651,~~757~~254
Cash flows from investing activities:
Acquisition-related payments, net of cash acquired		(883,~~798~~920	)		(714,~~236~~268	)
Purchases of property, plant and equipment		(96231,~~180~~501	)		(97169,~~101~~730	)
Proceeds from disposal of property, plant and equipment		1336,~~338~~679			2238,~~397~~701
Proceeds from sale of operations		8,400			65,019
Net cash used in investing activities		(83270,~~240~~342	)		(1680,~~921~~278	)
Cash flows from financing activities:
Proceeds from issuance of long-term debt		—			1,000,000
Principal payments of long-term debt		(~~354~~363,~~270~~958	)		(63340,~~981~~352	)
Principal payment of short-term bridge loan		—			(1,000,000	)
Net change in short-term borrowings		(1510,~~803~~588	)		(~~423~~8,790	)
Debt issuance costs		—			(89,~~099~~855	)
Settlement of interest rate derivative contract		—			(33,383	)
Payment of common stock dividends		(2959,~~786~~596	)		(2652,~~290~~598	)
Distributions to noncontrolling joint venture partner		—			(464,000	)
Other financing activities		~~(578~~1,713	)		(32,~~345~~937	)
Net cash used in financing activities		(~~400~~432,~~437~~429	)		(~~139~~511,~~521~~915	)
Effect of exchange rate changes on cash		(9,~~883~~987	)		(2,~~314~~615	)
Increase (decrease) in cash and cash equivalents		(~~440~~490,~~571~~686	)		3961,~~001~~676
Cash and cash equivalents at beginning of period		988,346			162,508
Cash and cash equivalents at end of period	$	~~547~~497,~~775~~660		$	~~201~~224,~~509~~184
Supplemental disclosures of cash flow information:
Cash paid for interest	$	5974,~~873~~793		$	2747,~~554~~526
Cash paid for income taxes		3045,~~082~~649			57173,~~138~~603

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC. CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Six Months Ended June 30, 2010 and 2009

CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Three Months Ended March 31, 2010 and 2009 (In thousands)


								Accumulated
			Additional					Other						Smith			Noncontrolling			Total
	Common		Paid-in		Retained			Comprehensive			Treasury			Stockholders’			Interests in			Stockholders’
	Stock		Capital		Earnings			Income			Securities			Equity			Subsidiaries			Equity
	(Unaudited)
	(In thousands)

Balance, December 31, 2008	$	236,726	$	1,975,102	$	2,885,792		$	(73,833	)	$	(474,448	)	$	4,549,339		$	1,310,970		$	5,860,309
Net income		—		—		121,321			—			—			121,321			86,146			207,467
Changes in fair value of derivatives, net of tax		—		—		—			39,676			—			39,676			—			39,676
Currency translation adjustments and other		—		—		—			27,350			—			27,350			9,549			36,899

Comprehensive income		—		—		121,321			67,026			—			188,347			95,695			284,042
Common stock dividends declared		—		—		(52,690	)		—			—			(52,690	)		—			(52,690	)
Distribution to noncontrolling joint venture partner		—		—		—			—			—			—			(64,000	)		(64,000	)
Long-term incentive compensation activity		269		23,358		—			—			(1,044	)		22,583			—			22,583

Balance, June 30, 2009	$	236,995	$	1,998,460	$	2,954,423		$	(6,807	)	$	(475,492	)	$	4,707,579		$	1,342,665		$	6,050,244


Balance, December 31, 2009	$	266,125	$	2,706,564	$	2,925,467		$	24,115		$	(481,704	)	$	5,440,567		$	1,389,363		$	6,829,930
Net income		—		—		76,615			—			—			76,615			75,178			151,793
Changes in fair value of derivatives, net of tax		—		—		—			(1,208	)		—			(1,208	)		282			(926	)
Currency translation adjustments and other		—		—		—			(37,065	)		—			(37,065	)		(19,259	)		(56,324	)

Comprehensive income		—		—		76,615			(38,273	)		—			38,342			56,201			94,543
Common stock dividends declared		—		—		(59,636	)		—			—			(59,636	)		—			(59,636	)
Long-term incentive compensation activity		406		28,525		—			—			(2,065	)		26,866			—			26,866

Balance, June 30, 2010	$	266,531	$	2,735,089	$	2,942,446		$	(14,158	)	$	(483,769	)	$	5,446,139		$	1,445,564		$	6,891,703

								Accumulated
			Additional					Other						Smith			Noncontrolling			Total
	Common		Paid-in		Retained			Comprehensive			Treasury			Stockholders’			Interests in			Stockholders’
	Stock		Capital		Earnings			Income			Securities			Equity			Subsidiaries			Equity
Balance, December 31, 2008	$	236,726	$	1,975,102	$	2,885,792		$	(73,833	)	$	(474,448	)	$	4,549,339		$	1,310,970		$	5,860,309
Net income		—		—		96,935			—			—			96,935			47,259			144,194
Changes in fair value of derivatives, net of tax		—		—		—			38,966			—			38,966			—			38,966
Currency translation adjustments and other		—		—		—			(9,542	)		—			(9,542	)		(4,186	)		(13,728	)
Comprehensive income		—		—		96,935			29,424			—			126,359			43,073			169,432
Common stock dividends declared		—		—		(26,372	)		—			—			(26,372	)		—			(26,372	)
Distribution to noncontrolling joint venture partner		—		—		—			—			—			—			(4,000	)		(4,000	)
Long-term incentive compensation activity		193		9,799		—			—			(983	)		9,009			—			9,009
Balance, March 31, 2009	$	236,919	$	1,984,901	$	2,956,355		$	(44,409	)	$	(475,431	)	$	4,658,335		$	1,350,043		$	6,008,378

CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Three Months Ended March 31, 2010 and 2009 (In thousands)

								Accumulated
			Additional					Other						Smith			Noncontrolling			Total
	Common		Paid-in		Retained			Comprehensive			Treasury			Stockholders'			Interests in			Stockholders'
	Stock		Capital		Earnings			Income			Securities			Equity			Subsidiaries			Equity
Balance, December 31, 2009	$	266,125	$	2,706,564	$	2,925,467		$	24,115		$	(481,704	)	$	5,440,567		$	1,389,363		$	6,829,930
Net income		—		—		11,541			—			—			11,541			35,055			46,596
Changes in fair value of derivatives, net of tax		—		—		—			(473	)		—			(473	)		—			(473	)
Currency translation adjustments and other		—		—		—			(17,186	)		—			(17,186	)		(8,070	)		(25,256	)
Comprehensive income		—		—		11,541			(17,659	)		—			(6,118	)		26,985			20,867
Common stock dividends declared		—		—		(29,810	)		—			—			(29,810	)		—			(29,810	)
Long-term incentive compensation activity		305		13,442		—			—			(2,005	)		11,742			—			11,742
Balance, March 31, 2010	$	266,430	$	2,720,006	$	2,907,198		$	6,456		$	(483,709	)	$	5,416,381		$	1,416,348		$	6,832,729

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS ~~(All dollar amounts are expressed in thousands, unless otherwise noted)~~ ~~(Unaudited)~~

(All dollar amounts are expressed in thousands, unless otherwise noted)

(Unaudited)


1.	Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated condensed financial statements of Smith International, Inc. and subsidiaries (“Smith” or 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 2009 Annual Report on Form 10-K and other current filings with the Commission. All adjustments that 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 accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosed amounts of contingent assets and liabilities and the reported amounts of revenues and expenses. Management believes the most significant estimates and assumptions are associated with the valuation of accounts receivables, inventories, goodwill, indefinite-lived intangibles and deferred taxes as well as the determination of liabilities related to self-insurance programs. If the underlying estimates and assumptions, upon which the financial statements are based, change in future periods, actual amounts may differ from those included in the accompanying consolidated 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 period presented may not be indicative of results which may be reported on a fiscal year basis.

Recent Accounting Pronouncements

From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (“FASB”). On January 1, 2010, the Company adopted a new accounting standard, which amends previous guidance on the consolidation of variable interest entities (“VIE”). The standard modifies how an enterprise determines the primary beneficiary that would consolidate the VIE from a quantitative risks and rewards calculation to a qualitative approach. Such assessment is required to be performed on a continuous basis and is influenced by, among other things, an enterprise’s ability to direct the most significant activities that influence the VIE’s operating performance. The adoption of this accounting standard did not have a material impact on the Company’s consolidated condensed financial statements.

In October 2009, the FASB issued an update to existing guidance with respect to revenue recognition for arrangements with multiple deliverables. This update will allow allocation of consideration received for qualified separate deliverables based on estimated selling prices for both delivered and undelivered items when vendor-specific or third-party evidence is not available. Additionally, disclosure of the nature of multiple element arrangements, the general timing of their delivery, and significant factors and estimates used to determine estimated selling prices are required. The Company is currently evaluating this update, which will be adopted for new revenue arrangements entered into or materially modified beginning January 1, 2011.

Management believes the impact of other recently issued standards and updates, which are not yet effective, will not have a material impact on the Company’s consolidated financial position, results of operations or cash flows upon adoption.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)


2.	Schlumberger Limited Merger Agreement

On February 21, 2010, the Company, Schlumberger Limited (“Schlumberger”) and Turnberry Merger Sub, Inc., a wholly-owned subsidiary of Schlumberger, entered into an Agreement and Plan of Merger (the “Merger Agreement”), pursuant to which Turnberry Merger Sub, Inc. will merge with and into the Company, with the Company surviving as a wholly-owned subsidiary of Schlumberger, and each share of Company common stock will be converted into the right to receive 0.6966 shares of Schlumberger common stock (the “Merger”). Completion of the Merger is subject to (i) approval of the Merger by the stockholders of the Company, (ii) applicable regulatory approvals, ~~including the termination or expiration of the applicable waiting period (~~and ~~any extensions thereof) under the U.S.~~ ~~Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and European Community merger regulations, and~~ (iii) other customary closing conditions. InThe ~~early~~European Commission ~~April 2010,~~has cleared the ~~parties received~~Merger aunder ~~request~~the ~~for~~EC ~~additional~~Merger ~~information~~Regulation without ~~and~~any ~~documentary material~~conditions, ~~often~~and ~~referred~~the toU.S. Department asof aJustice ~~“second~~ has ~~request”,~~cleared ~~from~~ the ~~Antitrust~~Merger ~~Division~~without ofany ~~the~~conditions, ~~United~~granting ~~States~~early termination ~~Department~~ of ~~Justice, which extends~~ the waiting period ~~under~~required ~~the~~by the Hart-Scott-Rodino Antitrust Improvements Act of 1976 with respect to the proposed merger.

Under the Merger Agreement, the Company agreed to conduct its business in the ordinary course while the Merger is pending, and, except as permitted under the Merger Agreement, to generally refrain from, among other things, acquiring new or selling existing businesses, incurring new indebtedness, repurchasing Company shares, issuing new common stock or equity awards, or entering into new material contracts or commitments outside the normal course of business, without the consent of Schlumberger. ~~During~~The ~~the~~Company ~~first~~recorded ~~quarter~~$23.0 million ofand $38.4 million, ~~2010~~respectively, for the ~~Company~~three-month ~~incurred~~and six-month ~~$15.4~~periods ended June ~~million~~30, 2010, in expenses associated with the proposed Merger, which expenses are included within selling, general and administrative expenses in the consolidated condensed statements of operations.


3.	Devaluation of Venezuelan Bolivar Fuertes

In January 2010, the Venezuelan government announced a devaluation of the Venezuelan Bolivar Fuertes which modified the official fixed rate from 2.15 Venezuelan Bolivar Fuertes per U.S. dollar to a multi-rate system. The Company accounts for its operations in Venezuela using the U.S. dollar as as its functional currency. Exchange rates used in translating Venezuelan Bolivar Fuertes denominated transactions, assets and liabilities subsequent to the devaluation date are dependent upon a number of factors, including the nature of contracts and the types of goods and services provided, which range between 2.6 and 4.3 Venezuelan Bolivar Fuertes per U.S. dollar. During Inthe ~~connection~~second ~~with~~quarter of 2010, the ~~revaluation~~Venezuelan ofgovernment modified its practices with respect to certain U.S. dollar based billings indicating it would settle such commitments at 2.6 rather than 4.3 Venezuelan Bolivar Fuertes ~~denominated~~per U.S. dollar. ~~net~~This ~~asset~~change ~~position~~resulted in a further reduction in the U.S. dollar value of receivables outstanding as of March 31, 2010 and revenues recognized during the second quarter of 2010. The Company recorded a pre-tax loss of $2311.09 million in the ~~first~~second quarter of 2010 in connection with the impact of the Venezuelan government’s action on outstanding receivables. For the six months ended June 30, 2010, the Company recorded a pre-tax loss totaling $34.9 million related to the revaluation of its Venezuelan Bolivar Fuertes denominated net asset position and certain U.S. dollar based billings, which is included within selling, general and administrative expenses in the consolidated condensed statements of operations.


4.	Acquisitions and Dispositions

Acquisitions

From time to time, the Company enters into transactions involving the purchase of a full or partial ownership interest in complementary business operations. ~~No material acquisitions were finalized~~ ~~during the first quarter of 2010 or 2009.~~

On April 16, 2010, the Company acquired the remaining 65 -percent ownership interest in @Balance, B.V. (“@ Balance”) in exchange for cash consideration of $74.0 million. @Balance is a supplier of managed pressure drilling services. Generally accepted ~~accounting~~ accounting principles require that an acquirer remeasure its previously held equity interest in an acquiree at ~~its~~ its acquisition date fair value and recognize the resulting gain ~~or loss in earnings. The Company~~ ~~expects to recognize a pre-tax gain ranging between $15 million and $25 million in the second quarter of 2010 as a result of remeasuring its previously held equity interest in @Balance.~~

Dispositions

During the first quarter of 2009, the Company disposed of certain non-core operations acquired in connection with the W-H transaction. The Company received cash proceeds of $65.0 million and is entitled to future consideration in the event financial metrics established under earn-out arrangements are met. The accompanying consolidated condensed financial statements reflect no gain or loss associated with the sale of these operations.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

or loss in earnings. The Company recognized a pre-tax gain of $20.8 million in the second quarter of 2010, as a result of remeasuring its previously held equity interest in @Balance, which is included within selling, general and administrative expenses in the consolidated condensed statements of operations. No other material acquisitions were finalized during the first six months of 2010 or 2009.

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 net assets acquired, which is primarily associated with the @Balance transaction, approximated $56.5 million and has been recorded as goodwill in the June 30, 2010 consolidated condensed balance sheet. The purchase price allocations related to the 2010 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 transactions was not material to the Company’s consolidated condensed financial statements.

Dispositions

During the first six months of 2009, the Company disposed of certain non-core operations acquired in connection with the W-H Energy Services, Inc. transaction. The Company received cash proceeds of $65.0 million and is entitled to future consideration in the event financial metrics established under earn-out arrangements are met. The accompanying consolidated condensed financial statements reflect no gain or loss associated with the sale of these operations.


5.	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 that could have occurred if additional shares were issued for stock option and restricted stock awards under the treasury stock method. For each of the periods presented, an immaterial number of outstanding stock-based awards were excluded from the computation of diluted EPS because they were anti-dilutive. 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
	Three Months Ended June 30,				Six Months Ended June 30,
	March 31,
	2010		2009		2010		2009
	2010		2009
Net income attributable to Smith	$	65,074	$	24,386	$	76,615	$	121,321
Net income attributable to Smith	$	11,541	$	96,935
Weighted average number of common shares outstanding		248,539		219,307		248,450		219,254
Weighted average number of common shares outstanding		248,360		219,201
Basic EPS	$	0.26	$	0.11	$	0.31	$	0.55
Basic EPS	$	0.05	$	0.44
Net income attributable to Smith	$	65,074	$	24,386	$	76,615	$	121,321
Net income attributable to Smith	$	11,541	$	96,935
Weighted average number of common shares outstanding		248,539		219,307		248,450		219,254
Weighted average number of common shares outstanding		248,360		219,201
Dilutive effect of stock options and restricted stock units		1,794		938		1,609		671
Dilutive effect of stock options and restricted stock units		1,401		402
		250,333		220,245		250,059		219,925
		249,761		219,603
Diluted EPS	$	0.26	$	0.11	$	0.31	$	0.55
Diluted EPS	$	0.05	$	0.44

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)


6.	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:

	March 31,			December 31,
	June 30,			December 31,
	2010			2009
Raw materials	$	~~170~~190,~~757~~042		$	173,953
Work-in-process		~~166~~236,~~701~~563			163,489
Finished goods		1,~~655~~619,~~558~~295			1,656,648
		1,993,016			1,994,090
		2,045,900			1,994,090
Reserves to state certain U.S. inventories (FIFO cost of $807,473 and $840,326 in 2010 and 2009, respectively) on a LIFO basis		(169,066	)		(173,735	)
Reserves to state certain U.S. inventories (FIFO cost of $706,598 and $840,326 in 2010 and 2009, respectively) on a LIFO basis		(165,277	)		(173,735	)
	$	1,~~823~~880,~~950~~623		$	1,820,355


7.	Property, Plant and Equipment

Property, plant and equipment consist of the following:

	March 31,			December 31,
	June 30,			December 31,
	2010			2009
Land and improvements	$	8788,~~847~~266		$	88,154
Buildings		~~363~~367,~~163~~149			357,521
Machinery and equipment		1,~~186~~197,~~222~~614			1,181,269
Rental tools		1,~~469~~546,~~043~~984			1,435,870
		3,106,275			3,062,814
		3,200,013			3,062,814
Less — Accumulated depreciation		(1,~~184~~227,~~325~~771	)		(1,139,349	)
	$	1,~~921~~972,~~950~~242		$	1,923,465


8.	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.

			Smith
	M-I SWACO		Oilfield			Distribution		Consolidated
Balance as of December 31, 2009	$	752,821	$	2,264,920		$	51,087	$	3,068,828
Purchase price revisions		6,015		(288	)		—		5,727
Acquisitions		—		56,487			—		56,487
Balance as of March 31, 2010	$	758,836	$	2,264,632		$	51,087	$	3,074,555
Purchase price revisions		6,813		(288	)		—		6,525
Balance as of June 30, 2010	$	759,634	$	2,321,119		$	51,087	$	3,131,840

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Other Intangible Assets

The components of other intangible assets are as follows:

	March 31, 2010						December 31, 2009
	June 30, 2010						December 31, 2009
	Gross						Gross
	Carrying		Accumulated				Carrying		Accumulated
	Amount		Amortization		Net		Amount		Amortization		Net
Patents	$	~~430~~446,~~935~~898	$	9199,~~125~~070	$	~~339~~347,~~810~~828	$	445,973	$	83,387	$	362,586
Trademarks(a)		~~207~~212,807		45,~~744~~095		~~203~~207,~~063~~712		205,031		4,390		200,641
License agreements		42,710		2223,~~268~~572		2019,~~442~~138		41,677		20,517		21,160
Non-compete agreements		38,445		2930,~~531~~652		87,~~914~~793		37,928		28,410		9,518
Customer relationships and contracts		6185,~~913~~713		4143,~~144~~924		2041,~~769~~789		58,438		38,257		20,181
	$	~~781~~826,~~810~~573	$	~~188~~202,~~812~~313	$	~~592~~624,~~998~~260	$	789,047	$	174,961	$	614,086


(a)		Included within the gross carrying amount of trademarks is $195.7 million of indefinite-lived assets.

Intangible amortization expense totaled $13.95 million and $12.9 million for the for the three-month periods ended June 30, 2010 and 2009, respectively, and $27.3 million and $25.8 million for the six months ended ~~March~~June 3130, 2010 and 2009, respectively. The weighted average life for other intangible assets subject to amortization, which excludes certain indefinite-lived trademarks, approximates 13 years. Amortization expense on existing intangible assets is expected to ~~approximate~~ approximate $53 million for fiscal year 2010 and is anticipated to range between $3236 million and $4748 million per year for the 2011 — 2014 fiscal years.

Changes during the first quarter of 2010 to the gross carrying amounts of goodwill and other components of intangible assets primarily relate to revisions of preliminary purchase price allocations for 2009 acquisitions.


9.	Debt

The following summarizes the Company’s outstanding debt:

	March 31,			December 31,
	June 30,			December 31,
	2010			2009
Current:
Short-term borrowings	$	7176,~~464~~679		$	87,267
Current portion of long-term debt		~~414~~239,~~896~~870			271,501
Short-term borrowings and current portion of long-term debt	$	~~486~~316,~~360~~549		$	358,768
Long-Term:
Notes, net of unamortized discounts	$	1,493,~~718~~783		$	1,493,634
Revolving credit facilities		—			—
Term loans		~~237~~228,~~767~~014			592,121
		1,731,485			2,085,755
		1,721,797			2,085,755
Less — Current portion of long-term debt		(~~414~~239,~~896~~870	)		(271,501	)
Long-term debt	$	1,~~316~~481,~~589~~927		$	1,814,254

10 During the first six months of 2010, the Company used a portion of the cash received in the November 2009 equity offering to repay $350 million of outstanding borrowings under various loan agreements. Additionally, $220.0 million of senior notes maturing in February 2011 and classified as long-term debt as of December 31, 2009 are classified within the current portion of long-term debt as of June 30, 2010.

~~During the first quarter of 2010, the Company used a portion of the cash received in the~~ ~~November 2009 equity offering to repay $370.1 million of outstanding borrowings under various loan~~ ~~agreements. Additionally, $220.0 million of senior notes maturing in February 2011 and classified~~ SMITH ~~as long-term debt as of December 31~~ INTERNATIONAL, ~~2009 are classified within the current portion of long-term debt as of March 31, 2010~~INC.

~~In December 2009, the Company entered into a $1.0 billion unsecured revolving credit facility~~ ~~provided by a syndicate of financial institutions, under which M-I SWACO can utilize up to $125~~ million. The revolving credit agreement allows for the election of interest at a base rate or a Eurodollar rate of LIBOR plus 250 basis points, and requires the payment of a quarterly commitment fee of 37.5 basis points on the unutilized portion of the facility. The credit facility, which expires in March NOTES ~~2013, contains customary covenants, a debt-to-total capitalization limitation and~~TO ~~remained~~ CONSOLIDATED ~~undrawn~~CONDENSED ~~at March 31, 2010. Additionally, the Company has a $375.0 million unsecured~~FINANCIAL ~~revolving credit facility, which expires in July~~ STATEMENTS ~~2010 and was undrawn at March~~— ~~31, 2010.~~(Continued)

~~Principal~~ In ~~payments~~December 2009, the Company entered into a $1.0 billion unsecured revolving credit facility provided by a syndicate of financial ~~long~~institutions, under which M-~~term~~I ~~debt~~SWACO can utilize up to $125 million. The revolving credit agreement allows for the election ~~twelve-month~~of ~~periods~~interest ~~ending~~at ~~subsequent~~a tobase rate or a Eurodollar rate of LIBOR plus 250 basis points, and requires the payment of a quarterly commitment fee of 37.5 basis points on the unutilized portion of the facility. The credit facility, which expires in March 2013, contains customary covenants, a debt-to-total capitalization limitation and remained undrawn at June 3130, ~~2011~~ 2010. ~~are~~Additionally, asthe ~~follows:~~Company had a $375.0 million unsecured revolving credit facility, which expired in July 2010 and was undrawn at June 30, 2010.

2011	$	22,652
2012		19,957
2013		—
2014		299,410
Thereafter		974,570
	$	1,316,589

Principal payments of long-term debt for the twelve-month periods ending subsequent to June 30, 2011 are as follows:

The Company was in compliance with its loan covenants under the various loan indentures, as amended, at March 31, 2010.


2012	$	197,816
2013		10,066
2014		299,459
2015		—
Thereafter		974,586

	$	1,481,927

The Company was in compliance with its loan covenants under the various loan agreements, as amended, at June 30, 2010.


10.	Derivative Financial Instruments

The nature of the Company’s business activities involves the management of various financial and market risks, including those related to changes in currency exchange rates and interest rates. In an effort to mitigate these risks, the Company enters into derivative financial instruments, which are accounted for as cash flow or fair value hedges in accordance with the authoritative accounting standard. The Company does not enter into derivative instruments for speculative purposes.

For foreign exchange and interest rate derivative instruments that do not qualify as cash flow hedges, realized and unrealized gains and losses are recognized currently through earnings. Foreign exchange hedge contracts not designated as cash flow hedges with a notional amount of $~~134~~164.5 million and $114.5 million were outstanding at ~~March~~June 3130, 2010 and December 31, 2009, respectively.

For foreign exchange and interest rate derivative instruments that qualify as cash flow hedges, realized and unrealized gains and losses are deferred to accumulated other comprehensive ~~income~~ income (“AOCI”) and recognized in the consolidated statements of operations when the hedged item affects earnings. At ~~March~~June 3130, 2010, the Company had one outstanding interest rate cash flow hedge contract with a notional amount of $5950.93 million and various outstanding foreign exchange cash ~~flow~~ flow hedge contracts with notional amounts totaling $2615.68 million. At December 31, 2009, the Company ~~had~~ had one outstanding interest rate cash flow hedge contract with a notional amount of $63.9 million and no outstanding foreign exchange cash flow hedge contracts. Approximately $3.2.6 million of losses deferred in AOCI related to cash flow foreign exchange and interest rate derivative contracts, or $1.54 million net of taxes and noncontrolling interests, will be reclassified into earnings during the ~~remainder~~second ofhalf ~~fiscal~~ of 2010.

The Company has recognized $74.01 million and $11.1 million of derivative contract losses in the consolidated condensed statements of operations for the three-month ~~period~~and six-month periods ended ~~March~~June 3130, 2010, respectively. During the ~~first~~three-month ~~quarter~~and six-month periods ended of June 30, 2009, the Company recognized $73.18 million ~~of derivative contract losses~~ and a $210.49 million ~~mark-to-market~~, ~~interest~~respectively, ~~rate~~in derivative ~~loss on a non-qualifying cash flow hedge~~ contract losses.

11 12

~~The following table provides required information with respect to the classification and loss~~ ~~amounts recognized in income as well as the derivative-related contract losses deferred in AOCI for~~ ~~the three months ended March 31~~ SMITH INTERNATIONAL, ~~2010 and 2009:~~INC.

Derivatives Designated	Gain (Loss)						Location of	Gain (Loss)						Location of Gain (Loss)	Gain (Loss)
as Cash Flow Hedging	Recognized						Gain (Loss) Reclassified	Reclassified from						Recognized in Income	Recognized in Income
Instruments —	in AOCI						from AOCI to Income	AOCI to Income						(Ineffective)	(Ineffective)
	March 31,							March 31,							March 31,
	2010			2009				2010			2009				2010		2009
Interest rate contracts	$	(357	)	$	(490	)	Interest expense	$	(869	)	$	(642	)	Selling, general and administrative expenses	$	—	$	(76	)
Foreign exchange contracts		(1,131	)		(1,061	)	Cost of oilfield revenues		(51	)		(1,408	)			—		—
Total	$	(1,488	)	$	(1,551	)		$	(920	)	$	(2,050	)		$	—	$	(76	)

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

		Gain (Loss)
	Location of Gain (Loss)	Recognized in Income
Derivatives Not Designated —	Recognized in Income	March 31,
		2010			2009
Foreign exchange contracts	Selling, general and administrative expenses	$	(6,043	)	$	(4,945	)

The following table provides required information with respect to the classification and loss amounts recognized in income as well as the derivative-related contract losses deferred in AOCI for the three-month and six-month periods ended June 30, 2010 and 2009:


	Gain (Loss)													Gain (Loss)
	Recognized in AOCI													Reclassified from AOCI to Income
	Three Months						Six Months						Location of Gain (Loss)	Three Months						Six Months
	Ended June 30,						Ended June 30,						Reclassified from AOCI to Income	Ended June 30,						Ended June 30,
	2010			2009			2010			2009				2010			2009			2010			2009

Derivatives Designated as Cash Flow Hedging Instruments —
Interest rate contracts	$	(290	)	$	(464	)	$	(647	)	$	(954	)	Interest expense	$	(837	)	$	(725	)	$	(1,705	)	$	(1,367	)
Foreign exchange contracts		(13	)		—			(1,144	)		(1,061	)	Cost of oilfield revenues		(367	)		(908	)		(418	)		(2,316	)

	$	(303	)	$	(464	)	$	(1,791	)	$	(2,015	)		$	(1,204	)	$	(1,633	)	$	(2,123	)	$	(3,683	)


	Gain (Loss) Recognized in Income
	Three Months						Six Months
	Ended June 30,						Ended June 30,
	2010			2009			2010			2009			Classification

Derivatives Designated as Cash Flow Hedging Instruments —
Interest rate contracts	$	—		$	—		$	—		$	(76	)	Selling, general and administrative expenses
Derivatives Not Designated —
Foreign exchange contracts	$	(2,932	)	$	(2,216	)	$	(8,975	)	$	(7,161	)	Selling, general and administrative expenses

The fair value of outstanding foreign exchange derivative instruments is determined using composite pricing from published financial market sources whereas the fair value of the outstanding interest rate derivative instruments is determined by obtaining quoted prices in active markets for similar contracts. Both measurement methodologies are classified as Level Two tier under the applicable accounting standard. The recorded fair value of derivative instruments is as follows:

	Fair Value of Derivatives
	March 31,			December 31,
	June 30,			December 31,
	2010			2009			Classification
Asset Derivatives	2010			2009			Classification
Asset Derivatives
Derivatives Not Designated —
Foreign exchange contracts	$	34,~~427~~381		$	2,648		Prepaid expenses and other
Liability Derivatives
Derivatives Designated as Hedging Instruments —
Interest rate contracts	$	(43,~~146~~650	)	$	(4,623	)	Other current liabilities
Foreign exchange contracts		(931	)		—		Other current liabilities
Derivatives Not Designated —
Foreign exchange contracts		(78,~~074~~394	)		(4,138	)	Other current liabilities
Total	$	(12,~~151~~044	)	$	(8,761	)

Other Financial Instruments

The fair value of outstanding long-term debt instruments is determined using quoted prices for similar debt instruments, which is classified as a Level Two tier measurement methodology under the applicable accounting standard. At ~~March~~ June 3130, 2010, the fair value of long-term debt instruments approximated $2.05 billion ~~and the recorded value totaled $1.73 billion. The fair and recorded~~ ~~values of long-term debt instruments totaled $2.33 billion and $2.09 billion, respectively, at December 31, 2009.~~

~~The fair value of the remaining financial instruments, including cash and cash equivalents,~~ ~~receivables, payables and short-term borrowings, approximates the carrying value due to the nature~~ ~~of these instruments.~~ 13

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

and the recorded value totaled $1.72 billion. The fair and recorded values of long-term debt instruments totaled $2.33 billion and $2.09 billion, respectively, at December 31, 2009.

The fair value of the remaining financial instruments, including cash and cash equivalents, receivables, payables and short-term borrowings, approximates the carrying value due to the nature of these instruments.


11.	Accumulated Other Comprehensive Income

Accumulated other comprehensive income in the accompanying consolidated condensed balance sheets consist of the following:

	March 31,			December 31,
	June 30,			December 31,
	2010			2009
Currency translation adjustments	$	14(5,~~042~~888	)	$	31,290
Fair value of derivatives		(23,~~747~~482	)		(2,274	)
Pension and other postretirement benefits		(4,~~839~~788	)		(4,901	)
Accumulated other comprehensive income	$	6(14,~~456~~158	)	$	24,115


12.	Long-Term Incentive Compensation

As of ~~March~~June 3130, 2010, the Company had outstanding restricted stock and stock option awards granted under the Third Amended and Restated 1989 Long-Term Incentive Compensation Plan (the “LTIC Plan”). As of ~~March~~June 3130, 2010, approximately 640 ~~775~~ thousand shares were authorized for future issuance pursuant to the LTIC Plan.

Restricted Stock

The restricted stock program consists of a combination of performance-based restricted stock units (“performance-based units”) and time-based restricted stock units (“time-based units”). The number of of performance-based units issued under the program, which can range from zero to 150 percent of the target units granted, is solely dependent upon financial metrics achieved by the Company in the fiscal year subsequent to the award. Activity under the Company’s restricted stock program for the ~~three~~ six-month period ended ~~March~~June 3130, 2010 is presented below (in thousands, except per share data):

	Time-Based Awards					Performance-Based Awards					Total
	No. of			Fair		No. of			Fair		Restricted
	Units			Value(a)		Units(b)			Value(a)		Stock Units
Outstanding at December 31, 2009		2,366		$	29.33		1,795		$	27.52		4,161
Granted		24196			3041.7517		—			—		24196
Forfeited		(2078	)		2735.6152		(36	)		4333.1838		(2384	)
Vested		—			—		(~~226~~250	)		2226.8280		(~~226~~250	)
Outstanding at March 31, 2010		2,370			29.36		1,566			28.17		3,936
Outstanding at June 30, 2010		2,484			30.07		1,539			27.62		4,023


(a)		Reflects the weighted average grant date fair value.

(b)		Performance-based units outstanding assume achievement of target level financial metrics related to the December 2009 grants.

Restrictions on approximately 1.2 million restricted stock units outstanding at ~~March~~June 3130, 2010 are expected to lapse and issue during the 2010 fiscal year.

~~Stock Options~~ 14

Activity under the Company’s stock option program for the three-month period ended March 31, 2010 is presented below (in thousands, except per share data):

	Shares			Weighted		Weighted Average
	Under			Average		Remaining		Aggregate
	Option			Exercise Price		Contractual Life		Intrinsic Value
Outstanding at December 31, 2009		1,057		$	20.01
Exercised		(76	)		18.27
Outstanding and exercisable at March 31, 2010		981			20.19		3.3	$	22,205

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Stock Options

Activity under the Company’s stock option program for the six-month period ended June 30, 2010 is presented below (in thousands, except per share data):


	Shares			Weighted		Weighted Average
	Under			Average		Remaining		Aggregate
	Option			Exercise Price		Contractual Life		Intrinsic Value

Outstanding at December 31, 2009		1,059		$	20.05
Exercised		(132	)		20.20

Outstanding and exercisable at June 30, 2010		927			20.02		3.1	$	16,348

Share-based Compensation Expense

Share-based compensation expense, consisting of restricted stock and stock option awards, was $12.1 0 million and $1210.48 million for the three-month periods ended ~~March~~ June 3130, 2010 and 2009, respectively, and $24.2 million and $23.1 million for each of the six-month periods ended June 30, 2010 and 2009, respectively.

Assuming achievement of target-level financial metrics for performance-based awards granted in December 2009, unrecognized share-based compensation expense totaled $9790.4 million for ~~awards~~ awards outstanding as of ~~March~~June 3130, 2010. After adjusting for taxes and noncontrolling interests, ~~approximately~~ approximately $6259.38 million of additional share-based compensation is expected to be recognized over a weighted average period of 2.46 years.


13.	Income Taxes

The effective tax rate for the ~~March~~three-month period ended June 30, 2010 ~~quarter~~ was ~~47.0~~32 percent asand ~~compared~~compares to ~~32.8~~ 31 percent for the prior-year ~~period~~quarter. ~~The~~For the six-months ended June 30, 2010 and 2009, the effective tax rate was 38 percent and 32 percent, respectively. The Company’s current quarter and year-to-date results include $237.06 million and $30.6 million, respectively, of losses related to devaluation of the Venezuelan local currency denominated net asset position and certain business combination transaction-related expenses for which no tax benefit was recognized. Additionally, during the second quarter of 2010, approximately $13.2 million of the pre-tax gain recognized on the Company’s remeasurement of its previous investment in @Balance did not attract income tax expense, which favorably impacted the effective tax rate. On a combined basis, the effect of these items accounted for the majority of the year-over-year variance ~~increase~~ in the effective tax ~~rate~~rates. The consolidated tax provision assumes completion of the proposed Merger as well as other business combination transactions. If these transactions do not close, an additional tax benefit ~~would~~will be recorded.


14.	Industry Segments and International Operations

The Company is a global provider of products and services used during the drilling, completion and production phases of oil and natural gas development activities. Our business is segregated into three operating segments, M-I SWACO, Smith Oilfield and Distribution, which is the basis upon which we report our results.

The M-I SWACO segment consists of a majority-owned drilling fluid and environmental services joint venture operation. The Smith Oilfield segment is comprised of our wholly-owned drilling and completion services operations, which includes drill bits, directional drilling services and downhole tools. The Distribution segment consists of the Wilson distribution operations and a majority-owned interest in CE Franklin Ltd., a publicly-traded Canadian distribution company. Finally, general corporate primarily reflects expenses related to corporate personnel, administrative support functions and long-term incentive compensation programs.

~~The following table presents consolidated revenues by region:~~ 15

	Three Months Ended March 31,
	2010		2009
United States	$	838,432	$	1,089,540
Canada		227,713		192,284
North America		1,066,145		1,281,824
Latin America		270,809		276,107
Europe/Africa		541,454		539,815
Middle East/Asia		259,403		313,733
Non-North America		1,071,666		1,129,655
	$	2,137,811	$	2,411,479

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The following table presents consolidated revenues by region:


	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2010		2009		2010		2009

United States	$	995,703	$	772,535	$	1,834,135	$	1,862,075
Canada		177,344		133,612		405,057		325,896

North America		1,173,047		906,147		2,239,192		2,187,971

Latin America		261,762		227,499		532,571		503,606
Europe/Africa		558,782		510,689		1,100,236		1,050,504
Middle East/Asia		302,472		299,954		561,875		613,687

Non-North America		1,123,016		1,038,142		2,194,682		2,167,797

	$	2,296,063	$	1,944,289	$	4,433,874	$	4,355,768

The following table presents financial information for each reportable segment:

	Three Months Ended March 31,
	Three Months Ended						Six Months Ended
	2010			2009
	June 30,						June 30,
Revenues:
	2010			2009			2010			2009
M-I SWACO	$	1,111,190		$	1,159,337
Revenues:
Smith Oilfield		574,831			682,400
M-I SWACO	$	1,155,600		$	1,013,016		$	2,266,790		$	2,172,353
Distribution		451,790			569,742
Smith Oilfield		650,151			520,467			1,224,982			1,202,867
	$	2,137,811		$	2,411,479
Distribution		490,312			410,806			942,102			980,548
Operating Income:
	$	2,296,063		$	1,944,289		$	4,433,874		$	4,355,768
M-I SWACO	$	120,404		$	147,508
Operating Income:
Smith Oilfield		56,548			105,765
M-I SWACO	$	132,589		$	121,325		$	252,993		$	268,833
Distribution		4,702			15,521
Smith Oilfield		80,987			47,622			137,535			153,387
General corporate		(56,775	)		(27,116	)
Distribution		13,599			(9,799	)		18,301			5,722
	$	124,879		$	241,678
General corporate		(35,722	)		(25,844	)		(92,497	)		(52,960	)
	$	191,453		$	133,304		$	316,332		$	374,982

~~The following tables summarize charges, included within selling, general and administrative~~ ~~expenses, on a reportable segment basis:~~ 16

For the three-months ended March 31, 2010:

			Tax (Provision)			Noncontrolling
	Pre-Tax Cost		Benefit			Interest		Net
Venezuelan currency devaluation:
M-I SWACO	$	11,646	$	(3,166	)	$	5,925	$	8,887
General corporate		11,330		508			—		10,822
		22,976		(2,658	)		5,925		19,709
Business combination transaction-related costs:
M-I SWACO		1,163		—			465		698
General corporate		15,392		792			—		14,600
		16,555		792			465		15,298
	$	39,531	$	(1,866	)	$	6,390	$	35,007

Charges incurred in the March 2010 quarter include a $23.0 million charge associated with the Venezuelan government’s devaluation of the Venezuelan Bolivar Fuertes, resulting in a revaluation of the Company’s Venezuelan Bolivar Fuertes denominated net asset position. The quarter also includes $16.6 million in transaction-related charges, primarily attributable to expenses associated with the proposed Merger.

For the three-months ended March 31, 2009:

			Tax (Provision)		Noncontrolling
	Pre-Tax Cost		Benefit		Interest		Net
Employee severance and other costs:
M-I SWACO	$	19,301	$	4,750	$	7,023	$	7,528
Smith Oilfield		12,359		4,325		—		8,034
Distribution		651		228		—		423
		32,311		9,303		7,023		15,985
Derivative contract-related loss:
General corporate		2,481		869		—		1,612
	$	34,792	$	10,172	$	7,023	$	17,597

Charges incurred during the first quarter of 2009 are attributable to severance-related expenses of $31.0 million associated with a reduction in North American personnel levels and $1.3 million in facility closure costs. During the quarter, the Company also recognized a $2.5 million loss on an interest rate derivative contract.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The following tables summarize charges and gains, included within selling, general and administrative expenses, on a reportable segment basis:

For the three months ended June 30, 2010:


	Pre-Tax			Tax (Provision)			Noncontrolling
	Cost			Benefit			Interest		Net

Venezuelan currency-related losses:
M-I SWACO	$	7,404		$	1,773		$	2,252	$	3,379
General corporate		4,487			1,526			—		2,961

		11,891			3,299			2,252		6,340

Business combination transaction-related costs:
M-I SWACO		654			222			173		259
General corporate		23,032			5,630			—		17,402

		23,686			5,852			173		17,661

Gain on remeasurement of investment in @Balance:
General corporate		(20,773	)		(3,389	)		—		(17,384	)

	$	14,804		$	5,762		$	2,425	$	6,617

For the six months ended June 30, 2010:


	Pre-Tax			Tax (Provision)			Noncontrolling
	Cost			Benefit			Interest		Net

Venezuelan currency-related losses:
M-I SWACO	$	19,050		$	(1,393	)	$	8,177	$	12,266
General corporate		15,817			2,034			—		13,783

		34,867			641			8,177		26,049

Business combination transaction-related costs:
M-I SWACO		1,817			222			638		957
General corporate		38,424			6,422			—		32,002

		40,241			6,644			638		32,959

Gain on remeasurement of investment in @Balance:
General corporate		(20,773	)		(3,389	)		—		(17,384	)

	$	54,335		$	3,896		$	8,815	$	41,624

Charges incurred in the June 2010 quarter include an $11.9 million charge associated with the revaluation of certain U.S. dollar based billings payable in Venezuelan Bolivar Fuertes, $23.7 million in transaction-related charges, primarily attributable to expenses associated with the proposed Merger, and a $20.8 million gain recognized in connection with the @Balance transaction. During the six months ended June 30, 2010, the Company recorded a $34.9 million charge associated with the Venezuelan government’s devaluation of the Venezuelan Bolivar Fuertes and revaluation of certain U.S. dollar based billings payable in Venezuelan Bolivar Fuertes, $40.2 million in business combination transaction-related charges, primarily attributable to expenses associated with the proposed Merger, and a $20.8 million gain recognized in connection with the @Balance transaction.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

For the three months ended June 30, 2009:


	Pre-Tax		Tax (Provision)		Noncontrolling
	Cost		Benefit		Interest		Net

Employee severance and other costs:
M-I SWACO	$	2,983	$	626	$	1,193	$	1,164
Smith Oilfield		8,593		3,006		—		5,587
Distribution		1,265		443		—		822
General corporate		160		56		—		104

	$	13,001	$	4,131	$	1,193	$	7,677

For the six months ended June 30, 2009:


	Pre-Tax		Tax (Provision)		Noncontrolling
	Cost		Benefit		Interest		Net

Employee severance and other costs:
M-I SWACO	$	22,284	$	5,376	$	8,216	$	8,692
Smith Oilfield		20,952		7,331		—		13,621
Distribution		1,916		671		—		1,245
General corporate		160		56		—		104

		45,312		13,434		8,216		23,662

Derivative contract-related costs:
General corporate		2,481		869		—		1,612

	$	47,793	$	14,303	$	8,216	$	25,274

Charges incurred during the first six months of 2009 are primarily attributable to severance-related expenses. The Company incurred charges of $12.5 million and $43.5 million for the three-month and six-month periods ended June 30, 2009, respectively, associated with a reduction in North American personnel levels. In addition, the Company incurred $0.5 million and $1.8 million in facility closure costs for the three-month and six-month periods ended June 30, 2009, respectively. During the six-month period ended June 30, 2009, the Company also recognized a $2.5 million loss on an interest rate derivative contract.


15.	Commitments and Contingencies

Litigation

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Company to enter into the Merger Agreement at an allegedly inadequate and unfair price, agreeing to transaction terms that improperly inhibit alternative transactions and failing to provide material information to the Company’s stockholders in the preliminary proxy statement filed in connection with the Merger. Specifically, the pleadings allege that the preliminary proxy statement omits material information relating to, among other things: the analyses performed by, and the information relied upon by, UBS; any strategic alternatives to the Merger considered by UBS; UBS’s involvement in the negotiations between the Company and Schlumberger; the fee to be paid to UBS in connection with the Merger; and any negotiations or plans concerning the employment of Smith management after consummation of the Merger. The pleadings also allege that the Company and Schlumberger aided and abetted the directors’ breaches of fiduciary duties. The pleadings seek, among other things, an injunction barring defendants from consummating the proposed transaction, declaratory relief and attorneys’ fees.

On May 28, 2010, a purported Company stockholder filed an individual lawsuit in the United States District Court for the Southern District of Texas, Houston Division, against the Company and its directors, alleging that the Company had disseminated a false and materially misleading preliminary proxy statement in connection with the Merger in violation of Sections 14(a) and 20(a) of the Securities Exchange Act of 1934 and the rules promulgated thereunder. The lawsuit alleges that the preliminary proxy statement omits and/or misrepresents material information relating to, among other things: negotiations, if any, with other potential acquirers of the Company; any “market check” conducted by the Company in connection with the Merger; any strategic alternatives considered by the Company’s directors in connection with the Merger; whether the Merger consideration includes any compensation for the synergies to be achieved in the Merger; the financial information and forecasts provided by the Company’s directors to UBS in connection with its fairness opinion; the discounted cash flow, comparable transaction and selected companies analyses performed by UBS; and business ties between any of the Company’s directors and Schlumberger. The complaint seeks, among other things, injunctive relief, compensatory damages and reasonable costs and expenses incurred in the action, including counsel fees and expert fees.

The Company believes that the lawsuits in which it is named are without merit and intends to defend these lawsuits vigorously.

On April 20, 2010, a fire and explosion occurred onboard the semisubmersible drilling rig Deepwater Horizon, owned by Transocean Ltd. and under contract to a subsidiary of BP plc. Pursuant to a contract between M-I SWACO and BP for the provision of certain services by M-I SWACO under the direction of BP, five employees of M-I SWACO were aboard the Deepwater Horizon at the time of the incident and unfortunately two of them were killed (the other three were uninjured). A number of legal actions, certain of which name an M-I SWACO entity as a defendant, have been filed in connection with the Deepwater Horizon incident, and additional legal actions may be filed in the future. Smith is currently investigating the incident and the liabilities that could potentially arise therefrom, and is assessing the availability of contractual indemnities and insurance coverage. However, based on information currently known, the amount of any potential loss attributable to M-I SWACO with respect to potential liabilities related to the incident would not be material.

The Company is also 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, results of operations or cash flows.

M-I SWACO Noncontrolling Interest

If the proposed Merger is not consummated, pursuant to the joint venture agreement, either the Company or its M-I SWACO joint ~~venture~~ venture partner, Schlumberger, can offer to sell to the other party its entire ownership interest in the joint venture in exchange for a cash purchase price specified by the offering partner. If the initiating partner’s offer to sell is not accepted, such party is obligated to purchase the other party’s interest at ~~the same valuation per interest. If the Company agrees to purchase~~ Schlumberger’s joint venture interest, whether pursuant to these provisions or otherwise, Smith would need to fund the transaction. The Company’s funding could include issuing equity, resulting in dilution to existing stockholders, obtaining additional debt, which may require waivers of applicable debt covenants, or obtaining other financing, as well as using available cash to fund the purchase. Should the Company instead not purchase Schlumberger’s interest, the Company would no longer have an interest in the joint venture.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

the same valuation per interest. If the Company agrees to purchase Schlumberger’s joint venture interest, whether pursuant to these provisions or otherwise, Smith would need to fund the transaction. The Company’s funding could include issuing equity, resulting in dilution to existing stockholders, obtaining additional debt, which may require waivers of applicable debt covenants, or obtaining other financing, as well as using available cash to fund the purchase. Should the Company instead not purchase Schlumberger’s interest, the Company would no longer have an interest in the joint venture.

Standby Letters of Credit

In the normal course of business with customers, vendors and others, the Company is contingently liable for performance under standby letters of credit and bid, performance and surety bonds. Certain of these outstanding instruments guarantee payment to insurance companies with respect to certain liability coverages of the Company’s insurance captive. Excluding the impact of ~~these~~ these instruments, for which $1920.13 million of related liabilities are reflected in the accompanying ~~consolidated~~ consolidated condensed balance sheet, the Company was contingently liable for approximately $~~252~~ 245 million of standby letters of credit and bid, performance and surety bonds at ~~March~~June 3130, 2010. Management does not expect any material amounts to be drawn on these instruments.

Insurance

The Company maintains insurance coverage for various aspects of its business and operations. The Company has elected to retain a portion of losses that occur through the use of deductibles and retentions under its insurance programs. Amounts in excess of the self-insured retention levels are fully insured to limits believed appropriate for the Company’s operations. Self-insurance accruals are based on claims filed and an estimate for claims incurred but not reported. While management believes that amounts accrued in the accompanying consolidated condensed financial statements are adequate for expected liabilities arising from the Company’s portion of losses, estimates of these liabilities may change as circumstances develop.

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 the opinion of management, these matters will not have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.

17 20


Item 2.	*Management’s Discussion and Analysis of Financial Condition and Results of Operations*

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 includes forward-looking statements that are subject to risks and uncertainties and 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, the Company’s 2009 Annual Report on Form 10-K and other current filings with the Commission.

Recent Developments

Schlumberger Limited Merger Agreement

On February 21, 2010, the Company, Schlumberger Limited (“Schlumberger”) and Turnberry Merger Sub, Inc., a wholly-owned subsidiary of Schlumberger, entered into an Agreement and Plan of Merger (the “Merger Agreement”), pursuant to which Turnberry Merger Sub, Inc. will merge with and into the Company, with the Company surviving as a wholly-owned subsidiary of Schlumberger, and each share of Company ~~common~~ common stock will be converted into the right to receive 0.6966 shares of Schlumberger common stock (the “Merger”). Completion of the Merger is subject to (i) approval of the Merger by the stockholders of the Company, (ii) applicable regulatory approvals, ~~including the termination or expiration of the applicable waiting period (~~and ~~any extensions thereof) under the~~ ~~U.S. Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and European Community merger regulations, and~~ (iii) other customary closing conditions. InThe ~~early April 2010, the parties~~European ~~received~~ Commission ahas ~~request~~cleared ~~for~~the ~~additional~~Merger ~~information~~under ~~and~~the ~~documentary~~EC ~~material,~~Merger ~~often referred to as~~Regulation ~~“second~~ without ~~request”~~any conditions, ~~from~~and the ~~Antitrust~~U.S. Department ~~Division~~ of ~~the~~Justice has ~~United~~cleared ~~States~~the ~~Department~~Merger ofwithout ~~Justice~~any conditions, ~~which~~granting early ~~extends~~ termination of the waiting period ~~under~~required ~~the~~by the Hart-Scott-Rodino Antitrust Improvements Act of 1976 with respect to the proposed merger.

Under the Merger Agreement, the Company agreed to conduct its business in the ordinary course while the Merger is pending, and, except as permitted under the Merger Agreement, to generally refrain from, among other things, acquiring new or selling existing businesses, incurring new indebtedness, repurchasing Company shares, issuing new capital stock or equity awards, or entering into new material contracts or commitments outside the ordinary course of business, without the consent of Schlumberger. During the ~~first~~three-month ~~quarter~~and ofsix-month periods ended June 30, 2010, the Company incurred $1523.0 million and $38.4 million, respectively, in expenses associated with the proposed Merger, which expenses are included within selling, general and administrative expenses in the consolidated condensed statements of operations.

Stockholder Litigation

Subsequent to the announcement of the ~~proposed~~ Merger, five putative class action lawsuits were commenced on behalf of stockholders of the Company against the Company and its directors, and in certain cases against Schlumberger and one of its affiliates, challenging the Merger. Four of the lawsuits were filed in the District Court of Harris County, Texas, ~~which~~and have been ~~consolidated~~ consolidated into a single action in the 164th District Court of Harris County, Texas (the “Texas Action”), and one lawsuit is pending in the Delaware Court of Chancery (the “Delaware Action,” and collectively with the Texas Action, the “Actions”). The ~~plaintiff~~parties in the Actions ~~Texas~~have ~~Action~~agreed ~~has~~to ~~filed~~an ~~a First~~expedited ~~Amended~~discovery ~~Petition.~~schedule ~~The~~and ~~Actions~~to the ~~variously~~coordination ~~allege~~of ~~that~~pleadings ~~the~~and ~~Company’s~~discovery ~~directors~~in ~~breached~~advance ~~their~~of any ~~fiduciary~~ preliminary ~~duties~~injunction byhearing, ~~among~~which ~~other~~will ~~things,~~be ~~causing~~heard ~~Smith~~only toin ~~enter into~~ the Texas ~~proposed~~Action. ~~transaction~~On atApril 19, ~~an allegedly~~2010, ~~inadequate~~the ~~and~~court ~~unfair~~in ~~price~~the ~~and~~Delaware Action ~~agreeing~~approved tothe ~~transaction~~parties’ ~~terms~~agreement ~~that~~concerning ~~improperly inhibit~~the ~~alternative~~ coordination ~~transactions.~~of ~~The~~the ~~Texas~~Actions ~~Action~~and ~~separately~~agreed ~~alleges~~to ~~that~~otherwise stay the Delaware ~~Company~~proceedings ~~aided~~through ~~and~~any ~~abetted the~~preliminary ~~directors’~~injunction ~~breaches~~hearing in ofTexas. ~~fiduciary~~Plaintiffs ~~duties,~~in ~~and~~the ~~both~~ Actions ~~allege~~have ~~that~~served ~~Schlumberger~~a ~~aided and~~consolidated ~~abetted~~ amended ~~the~~petition ~~directors’~~for ~~breaches~~breach of fiduciary ~~duties.~~duty ~~The~~and ~~complaints~~a ~~seek,~~verified amended ~~among~~class ~~other~~action ~~things~~complaint, ~~an injunction~~respectively. ~~barring~~The ~~defendants~~amended pleadings ~~from~~are ~~consummating~~substantively ~~the~~similar ~~proposed~~and ~~transaction,~~allege ~~declaratory~~that ~~relief and~~the ~~attorneys~~ Company’s ~~fees.~~directors ~~The~~breached ~~parties~~their infiduciary ~~the~~duties ~~Texas~~by, among ~~Action~~other ~~and~~things, ~~Delaware~~causing ~~Action~~the ~~have~~Company ~~agreed~~ to anenter ~~expedited discovery~~into ~~schedule~~the ~~and~~Merger Agreement toat ~~the~~an ~~coordination~~allegedly ofinadequate ~~pleadings~~ and ~~discovery~~unfair inprice, ~~advance of any preliminary~~agreeing ~~injunction~~ to ~~hearing,~~transaction ~~which~~terms ~~will~~that beimproperly ~~heard~~inhibit ~~only~~alternative transactions inand ~~the~~failing ~~Texas~~to ~~Action.~~provide Onmaterial ~~April 19,~~information ~~2010,~~to the Company’s ~~court~~stockholders in the ~~Delaware~~preliminary ~~Action~~proxy ~~approved~~statement filed ~~the~~in ~~parties’~~connection ~~agreement~~with ~~concerning~~ the ~~coordination~~Merger. ofSpecifically, the ~~Texas and~~pleadings ~~Delaware~~ allege ~~actions~~that ~~and agreed to otherwise stay~~ the ~~Delaware~~preliminary ~~proceedings~~proxy ~~through~~statement ~~any~~omits ~~preliminary~~material ~~injunction~~ information ~~hearing~~relating into, ~~Texas.~~among ~~The~~other ~~Company~~things: ~~believes that~~ the ~~lawsuits~~analyses performed ~~are~~by, ~~without~~and ~~merit~~the ~~and~~information ~~intends to~~relied ~~defend~~upon ~~these~~by, ~~lawsuits~~UBS; ~~vigorously.~~any strategic

18 21

alternatives to the Merger considered by UBS; UBS’s involvement in the negotiations between the Company and Schlumberger; the fee to be paid to UBS in connection with the Merger; and any negotiations or plans concerning the employment of Smith management after consummation of the Merger. The pleadings also allege that the Company and Schlumberger aided and abetted the directors’ breaches of fiduciary duties. The pleadings seek, among other things, an injunction barring defendants from consummating the proposed transaction, declaratory relief and attorneys’ fees.

The Company believes that the lawsuits in which it is named are without merit and intends to defend these lawsuits vigorously.

Where to Find Additional Information

Additional information about Schlumberger is included in documents that it has filed with the Securities and Exchange Commission (“SEC”). Additional information concerning the Merger is contained in Item 1A, Risk Factors, and in the proxy statement/prospectus and registration statement ~~filed~~ filed with the SEC on ~~April 27~~July 16, 2010. STOCKHOLDERS ARE URGED TO READ THE PROXY STATEMENT/PROSPECTUS AND REGISTRATION ~~STATEMENT~~ STATEMENT REGARDING THE PROPOSED TRANSACTION AS IT CONTAINS IMPORTANT INFORMATION ABOUT THE PROPOSED TRANSACTION. These materials are available to the stockholders of Smith at no expense to them. Investors and security holders are able to obtain the documents free of charge at the SEC’s website, www.sec.gov. In addition, such materials (and all other documents filed with the SEC) are available free of charge at www.smith.com or www.slb.com. A stockholder may also read and copy any reports, statements and other information filed by Smith or Schlumberger with the SEC at the SEC public reference room at 100 F Street N.E., Room 1580, Washington, D.C. 20549. Please call the SEC at (800) 732-0330 or visit the SEC’s website for further information on its public reference room.

Each company’s directors and executive officers and other persons may be deemed, under SEC rules, to be participants in the solicitation of proxies in connection with the proposed transaction. Information regarding Schlumberger’s directors can be found in its proxy statement filed with the SEC on on March 4, 2010 and officers can be found in its 2009 Form 10-K filed with the SEC on February 5, 2010. Information regarding Smith’s directors can be found in the proxy statement/prospectus filed on ~~April 27~~July 16, 2010 and officers can be found in Smith’s 2009 Form 10-K filed with the SEC on ~~March~~ March 1, 2010. Additional information regarding the participants in the proxy solicitation and a description of their direct and indirect interests in the transaction, by security holdings or otherwise, are contained in the proxy statement/prospectus filed on ~~April 27~~July 16, 2010 and other relevant materials to be filed with the SEC.

Deepwater Horizon Drilling Rig Accident

five employees of M-I SWACO were aboard the Deepwater Horizon at the time of the incident and unfortunately two of them were killed (the other three were uninjured). A number of legal actions, certain of which name an M-I SWACO entity as a defendant, have been filed in connection with the Deepwater Horizon incident, and additional legal actions may be filed in the future. Smith is currently investigating the incident and the liabilities that could potentially arise therefrom, and is assessing the availability of contractual indemnities and insurance coverage. However, based on information currently known, the amount of any potential loss attributable to M-I SWACO with respect to potential liabilities related to the incident would not be material.

The Company’s revenue attributable to the U.S. Gulf of Mexico represented approximately six percent of its consolidated revenue for the year ended December 31, 2009. The majority of these revenues related to the high-performance services and products deployed in deepwater operations. At this time, Smith can not predict what further impact the Deepwater Horizon incident may have on the regulation of offshore oil and gas exploration and development activity, the cost or availability of insurance coverage to cover the risks of such operations, or what actions may be taken by customers of Smith or other industry participants in response to the incident. Increased costs for the operations of Smith’s customers in the U.S. Gulf of Mexico, along with permitting delays, could affect the economics of currently planned activity in the area and demand for their services. A prolonged suspension of drilling activity in the U.S. Gulf of Mexico and resulting new regulations could materially adversely affect the Company’s financial condition, results of operations or cash flows.

Devaluation of Venezuelan Bolivar Fuertes

In January 2010, the Venezuelan government announced a devaluation of the Venezuelan Bolivar Fuertes which modified the official fixed rate from 2.15 Venezuelan Bolivar Fuertes per U.S. dollar to a multi-rate system. The Company accounts for its operations in Venezuela using the U.S. dollar as as its functional currency. Exchange rates used in translating Venezuelan Bolivar Fuertes denominated transactions, assets and liabilities subsequent to the devaluation date are dependent upon a number of factors, including the nature of contracts and the types of goods and services provided, which range between 2.6 and 4.3 Venezuelan Bolivar Fuertes per U.S. dollar. InDuring ~~connection~~the ~~with~~second quarter of 2010, the Venezuelan ~~revaluation~~government ofmodified its practices with respect to ~~Venezuelan~~ certain U.S. dollar based billings indicating it would settle such commitments at 2.6 rather than 4.3 Venezuelan Bolivar Fuertes ~~denominated~~per ~~net~~U.S. dollar. ~~asset~~This ~~position~~change resulted in a further reduction in the U.S. dollar value of receivables outstanding as of March 31, 2010 and revenues recognized during the second quarter of 2010. The Company recorded a pre-tax loss of $2311.09 million in the ~~first~~second quarter of 2010 in connection with the impact of the Venezuelan government’s action on outstanding receivables. For the six months ended June 30, 2010, the Company recorded a pre-tax loss totaling $34.9 million related to the revaluation of its Venezuelan Bolivar Fuertes denominated net asset position and certain U.S. dollar based billings, which is included within selling, general and administrative expenses in the consolidated condensed statements of operations.

Company Products and Operations

The Company is a leading global provider of premium products and services used during the drilling, completion and production phases of oil and natural gas exploration and development activities. We provide a comprehensive line of technologically-advanced products and engineering services, including drilling and completion fluid systems, solids-control and separation equipment, waste-management services, three-cone and diamond drill bits, borehole enlargement services, tubulars, directional systems, measurement-while-drilling and logging-while-drilling services, coiled tubing, cased-hole wireline and other complementary downhole tools and services. The Company also offers supply-chain management solutions through an extensive North American branch network providing pipe, valves and fittings as well as mill, safety and other maintenance products.

The Company’s operations are driven principally 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, environmental concerns, the financial condition of independent E&P companies, the overall level of global ~~economic growth~~ and activity, and political actions and uncertainties including, but not limited to, increased taxation and royalties. In addition, approximately five 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.

19 23

~~Capital investment by energy companies is largely divided into two markets, which vary greatly in~~ ~~terms~~ economic ofgrowth ~~primary business drivers~~ and ~~associated volatility levels. North American drilling~~ activity ~~is primarily influenced by natural gas fundamentals~~, ~~with approximately~~and ~~60 percent~~political ofactions ~~the~~and ~~first~~ uncertainties ~~quarter 2010 rig count focused on natural gas finding and development activities. Conversely~~including, ~~drilling in~~but ~~areas~~not ~~outside~~limited ~~of North America is more dependent on crude oil fundamentals~~to, ~~which~~increased ~~influence~~taxation, ~~three-quarters~~ regulation ofand ~~international drilling activity~~royalties. ~~Historically,~~In ~~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~~addition, ~~consortiums~~approximately ~~and national oil companies as part of a~~five ~~longer-term~~ percent ~~strategic development plan. Although approximately half~~ of the Company’s consolidated revenues ~~were~~relate ~~generated in North America during~~ to the ~~first~~downstream ~~quarter~~energy ~~of 2010~~sector, ~~Smith’s~~including ~~profitability was~~petrochemical ~~influenced~~plants ~~by business levels in markets outside of North America. The Distribution segment, which accounts for 21 percent of consolidated revenues~~ and ~~primarily supports a North American~~ ~~customer base~~ refineries, ~~masks~~whose ~~the~~spending ~~geographic~~is ~~revenue~~largely ~~mix~~impacted ofby the ~~Company’s oilfield operations. Excluding~~general ~~the~~ condition ~~impact~~ of the ~~Distribution segment, approximately 62~~U.S. ~~percent of the Company’s revenues were generated in markets outside of North America during the first quarter of 2010~~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 60 percent of the first six months of 2010 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 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 approximately half of the Company’s consolidated revenues were generated in North America during the first half of 2010, Smith’s profitability was influenced by business levels in markets outside of North America. The Distribution segment, which accounts for 21 percent of consolidated revenues and primarily supports a North American customer base, masks the geographic revenue mix of the Company’s oilfield operations. Excluding the impact of the Distribution segment, over 60 percent of the Company’s revenues were generated in markets outside of North America during the first half of 2010.

Business Outlook

The Company’s current year results will be influenced by worldwide drilling activity and the general state of the global economic environment. On a worldwide basis, drilling activity is currently expected to increase ~~moderately~~ over 2009 levels. The majority of the anticipated increase is expected in the North American market, ~~which~~driven isby ~~largely~~the ~~dependent~~reported onexpansion ~~natural~~in ~~gas~~non-conventional, ~~fundamentals~~ oil-directed drilling. Markets outside of North America, which focus on oil-directed activities, will be influenced by global energy demand and oil-targeted drilling projects. Near-term activity levels will likely be influenced by a recovery in Canadian drilling from the ~~annual~~seasonal ~~spring~~decline ~~break-up~~experienced in ~~Canada,~~the second quarter of each year due to the spring break-up, which limits land-based drilling activity. inAdditionally, ~~that~~recent U.S. government ~~market~~moratoriums ~~during~~and apending ~~portion~~guidelines ofand regulations ~~the~~with ~~second~~respect ~~quarter.~~to ~~Seasonal~~ drilling ~~restrictions~~activity and the permitting ~~have~~ of ~~resulted~~new wells in athe ~~significant~~U.S. Gulf ~~decline~~of Mexico in response to the Deepwater ~~Canadian~~Horizon drilling rig ~~count~~accident ~~from~~and ~~the~~resulting ~~levels~~oil spill ~~reported~~will ~~for~~adversely impact the ~~first~~ ~~quarter~~offshore ofoil ~~2010,~~and ~~which~~gas ~~will~~operations of ~~likely~~the ~~contribute~~Company toand aother ~~temporary~~industry ~~decline~~participants in ~~average~~the ~~worldwide~~near term ~~drilling~~ and may result over the long term in a shift in activity ~~for~~away from the ~~second~~United ~~quarter~~States. Although ~~additional~~prolonged suspension of drilling activity in the U.S. Gulf of Mexico and resulting new regulations or deterioration in the global economic environment could lead to lower exploration and production spending, ~~further~~ reducing demand for the Company’s products and services and adversely impacting future results, the long-term ~~outlook~~ outlook for the global energy sector is favorable due to supply and demand fundamentals.

The Merger Agreement with Schlumberger contains a number of restrictions on the Company’s operations during ~~the~~ the pendency of the Merger. Smith’s ability to implement its business plan and respond to market conditions will be subject to compliance with these restrictions. Further information on ~~these~~ these restrictions can be found in the Merger Agreement and in the proxy statement/prospectus filed with the ~~Securities and Exchange~~ Commission on ~~April 27~~ July 16, 2010.

Forward-Looking Statements

This document contains forward-looking statements within the meaning of the Section 21E of the Securities Exchange Act of 1934, as amended, concerning, among other things, our outlook, financial projections and business strategies, all of which are subject to risks, uncertainties and assumptions. These forward-looking statements are identified by their use of terms such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “project,” “should” and similar terms. ~~These~~ These statements are based on certain assumptions and analyses that we believe are appropriate under the circumstances. Such statements are subject to, among other things, satisfaction of the ~~closing~~ closing conditions to the Merger, the risk that the contemplated Merger does not occur, negative effects from the pendency of the Merger, the ability to successfully integrate the merged businesses and to realize expected synergies, the risk that we will not be able to retain key employees, expenses of the Merger, overall demand for and pricing of the Company’s products and services, general economic and business conditions, the level of oil and natural gas exploration and development activities, global economic growth and activity, political stability of oil-producing countries, finding and development costs of operations, decline and depletion rates for oil and natural gas wells, seasonal weather conditions, industry conditions, and changes in laws or regulations and other risk factors that are discussed beginning on page 29 of this Form 10-Q, in the Company’s Form 10-K for the fiscal year ended December 31, 2009, and other documents filed with the Securities and Exchange Commission, many of which are beyond the control of the Company. Should one or more of these risks or uncertainties materialize, or should the assumptions prove incorrect, actual results may differ materially from those expected, estimated or projected. Management believes these forward-looking statements are reasonable. However, a stockholder should not place undue reliance on these forward-looking statements, which are based only on our current expectations. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to publicly update or revise any of them in light of new information, future events or otherwise.

20 24

businesses and to realize expected synergies, the risk that we will not be able to retain key employees, expenses of the Merger, overall demand for and pricing of the Company’s products and services, general economic and business conditions, the level of oil and natural gas exploration and development activities, global economic growth and activity, political stability of oil-producing countries, finding and development costs of operations, decline and depletion rates for oil and natural gas wells, seasonal weather conditions, industry conditions, effects of the prospective or suspended drilling moratoriums in the Gulf of Mexico or related changes in laws or regulations, and changes in laws or regulations and other risk factors that are discussed beginning on page 36 of this Form 10-Q, in the Company’s Form 10-K for the fiscal year ended December 31, 2009, and other documents filed with the Commission, many of which are beyond the control of the Company. Should one or more of these risks or uncertainties materialize, or should the assumptions prove incorrect, actual results may differ materially from those expected, estimated or projected. Management believes these forward-looking statements are reasonable. However, a stockholder should not place undue reliance on these forward-looking statements, which are based only on our current expectations. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to publicly update or revise any of them in light of new information, future events or otherwise.

Results of Operations

Segment Discussion

Our business is segregated into three operating segments, M-I SWACO, Smith Oilfield and Distribution, which is the basis upon which we report our results. The M-I SWACO segment consists of a majority-owned drilling fluid and environmental services joint venture operation. The Smith Oilfield segment is comprised of our wholly-owned drilling and completion services operations, which includes drill bits, directional drilling services and downhole tools. The Distribution segment consists of the Wilson distribution operations and a majority-owned interest in CE Franklin, Ltd., a publicly-traded Canadian distribution company. Finally, general corporate primarily reflects expenses related to corporate personnel, administrative support functions and long-term incentive compensation programs.

	Three Months Ended March 31,
	Three Months Ended June 30,											Six Months Ended June 30,
	2010					2009						2010					2009
	Amount			%		Amount			%			Amount			%		Amount			%
Financial Data: (Dollars in thousands)
	(Dollars in thousands)
Revenues:
Financial Data:
M-I SWACO	$	1,111,190			52	$	1,159,337			48
Revenues:
Smith Oilfield		574,831			27		682,400			28
M-I SWACO	$	1,155,600			51	$	1,013,016			52		$	2,266,790			51	$	2,172,353			50
Distribution		451,790			21		569,742			24
Smith Oilfield		650,151			28		520,467			27			1,224,982			28		1,202,867			28
Total	$	2,137,811			100	$	2,411,479			100
Distribution		490,312			21		410,806			21			942,102			21		980,548			22
Geographic Revenues:
Total	$	2,296,063			100	$	1,944,289			100		$	4,433,874			100	$	4,355,768			100
United States:
Geographic Revenues:
M-I SWACO	$	239,959			11	$	259,889			11
United States:
Smith Oilfield		284,532			13		397,481			16
M-I SWACO	$	269,668			12	$	204,250			11		$	509,627			11	$	464,139			11
Distribution		313,941			15		432,170			18
Smith Oilfield		353,565			15		274,208			14			638,097			15		671,689			15
Total United States		838,432			39		1,089,540			45
Distribution		372,470			16		294,077			15			686,411			15		726,247			17
Canada:
Total United States		995,703			43		772,535			40			1,834,135			41		1,862,075			43
M-I SWACO		61,470			3		40,926			2
Canada:
Smith Oilfield		48,733			2		37,938			1
M-I SWACO		45,739			2		22,742			1			107,209			2		63,668			1
Distribution		117,510			6		113,420			5
Smith Oilfield		34,138			2		17,525			1			82,871			2		55,463			1
Total Canada		227,713			11		192,284			8
Distribution		97,467			4		93,345			5			214,977			5		206,765			5
Non-North America:
Total Canada		177,344			8		133,612			7			405,057			9		325,896			7
M-I SWACO		809,761			38		858,522			36
Non-North America:
Smith Oilfield		241,566			11		246,981			10
M-I SWACO		840,193			37		786,024			40			1,649,954			38		1,644,546			38
Distribution		20,339			1		24,152			1
Smith Oilfield		262,448			11		228,734			12			504,014			11		475,715			11
Total Non-North America		1,071,666			50		1,129,655			47
Distribution		20,375			1		23,384			1			40,714			1		47,536			1
Total Revenues	$	2,137,811			100	$	2,411,479			100
Total Non-North America		1,123,016			49		1,038,142			53			2,194,682			50		2,167,797			50
Operating Income:
Total Revenues	$	2,296,063			100	$	1,944,289			100		$	4,433,874			100	$	4,355,768			100
M-I SWACO	$	120,404			11	$	147,508			13
Operating Income:
Smith Oilfield		56,548			10		105,765			16
M-I SWACO	$	132,589			11	$	121,325			12		$	252,993			11	$	268,833			12
Distribution		4,702			1		15,521			3
Smith Oilfield		80,987			12		47,622			9			137,535			11		153,387			13
General corporate		(56,775	)		*		(27,116	)		*
Distribution		13,599			3		(9,799	)		(2	)		18,301			2		5,722			1
Total	$	124,879			6	$	241,678			10
General corporate		(35,722	)		*		(25,844	)		*			(92,497	)		*		(52,960	)		*
Total	$	191,453			8	$	133,304			7		$	316,332			7	$	374,982			9


*		not meaningful

21 26

	Three Months Ended March 31,
	Three Months Ended June 30,								Six Months Ended June 30,
	2010				2009				2010				2009
	Amount		%		Amount		%		Amount		%		Amount		%
Market Data:
Average Worldwide Rig Count: (1)
Average Worldwide Rig Count:(1)
United States		1,~~489~~666		3236		1,~~347~~004		3026		1,577		34		1,176		28
Canada		~~403~~156		93		~~293~~79		72		280		6		186		5
Non-North America		2,~~750~~846		5961		2,~~809~~769		6372		2,798		60		2,789		67
Total		4,~~642~~668		100		43,~~449~~852		100		4,655		100		4,151		100
Onshore		4,~~049~~073		87		3,~~852~~257		8785		4,062		87		3,555		86
Offshore		~~593~~595		13		~~597~~595		1315		593		13		596		14
Total		4,~~642~~668		100		43,~~449~~852		100		4,655		100		4,151		100
Average Commodity Prices:
Crude Oil ($/Bbl) (2)	$	78.88			$	43.31
Crude Oil ($/Bbl)(2)	$	78.05			$	59.79			$	78.46			$	51.68
Natural Gas ($/mcf) (3)		4.99				4.47
Natural Gas ($/mcf)(3)		4.35				3.81				4.67				4.13


(1)		Source: M-I SWACO (2009 revised effective January 2010).

(2)		Average daily West Texas Intermediate (“WTI”) spot closing prices, as quoted by NYMEX.

(3)		Average daily Henry Hub, Louisiana spot closing prices, as quoted by NYMEX.

M-I SWACO

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~~ 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 its exposure to the global offshore market, which constitutes 5049 percent of the revenue base, and to exploration and production spending for land-based projects outside of North America, which contributes approximately 3031 percent of the segment’s revenues. The remaining 20 percent of M-I SWACO’s revenues are derived from customer spending for North American land-based projects. Offshore drilling programs, which accounted ~~for~~ for 13 percent of the worldwide rig count in the first ~~quarter~~ half of 2010, are generally more revenue intensive than land-based projects due to the complex nature of the related drilling environment. For the second quarter of 2010, M-I SWACO ~~reported~~ ’s revenues oftotaled $1.116 billion, ~~for~~an ~~the~~increase ~~first quarter~~ of ~~2010, four~~ 14 percent ~~below~~from the ~~March~~ comparable 2009 period. The majority of the ~~period-to-period~~ revenue ~~decline~~growth was ~~concentrated~~reported in the Western Hemisphere ~~Middle~~ reflecting ~~East/Asia~~the ~~region,~~affect ~~where~~of ~~customer~~a ~~spending~~substantial ~~for~~improvement in land-based drilling activity and ~~completion~~demand ~~fluids~~for asdrilling ~~well~~fluids ~~as waste~~and waste management services. ~~declined~~To ~~primarily~~a ~~due~~lesser toextent, the year-over-year revenue ~~timing~~increase ofwas ~~certain~~also driven by higher customer ~~projects.~~demand in ~~Within~~ the Former Soviet Union (“FSU”) and North ~~America,~~Sea ~~the~~regions. M-I ~~impact~~SWACO ofreported arevenues 22of $2.27 billion for the six-month period, four percent ~~decline~~above inthe ~~drilling~~amounts ~~activity~~reported in the ~~revenue-intensive~~ first Uhalf of 2009.S. ~~offshore~~Substantially ~~sector~~all onof ~~demand~~the ~~for~~revenue ~~drilling~~expansion was ~~and~~reported ~~completion~~in ~~fluids~~North ~~was~~America, ~~partially offset~~influenced by higher demand for drilling solutions, production chemicals and waste management services for land-based ~~activity~~projects.

Operating Income

Operating income for the M-I SWACO segment ~~totaled~~ was $~~120~~132.46 million for the ~~three~~second ~~months~~quarter ~~ended~~of ~~March 31,~~ 2010, translating into operating margins of 1011.85 percent. Operating margins ~~declined two~~ ~~percentage~~ were ~~points~~slightly ~~from~~below ~~the~~ prior-year ~~period,~~levels ~~reflecting~~due ~~the~~principally ~~impact~~to ~~of lower offshore activity on~~the ~~demand~~ effect ~~for~~of ~~premium~~increased ~~fluids,~~charges areported ~~reduction~~ in ~~higher-margin~~the ~~waste~~current ~~management services and lower overall pricing~~quarter. On an absolute dollar basis, operating income was $2711.13 million ~~below~~above the ~~prior~~2009 ~~year’s~~ level, impacted by ~~lower~~ higher revenue volumes and product mix factors. ~~After~~Operating ~~excluding~~income ~~an $11.6 million~~rose ~~charge associated with the Venezuelan currency devaluation and~~ $116.~~2 million of business combination transaction-related charges in the March 2010 quarter, and excluding $19.~~3 million ~~of severance-related charges in the March 2009 quarter, operating income declined $33.6 million~~ from the comparable prior-year period., after excluding

22 27

$8.1 million of charges associated primarily with the revaluation of certain Venezuelan U.S. dollar equivalent receivables in the June 2010 quarter and $3.0 million of severance-related charges in the June 2009 quarter. For the six months ended June 30, 2010, M-I SWACO operating income was $253.0 million, or 11.2 percent of revenues. After excluding $19.1 million in costs incurred related to the Venezuelan government’s currency changes and $1.8 million business combination transaction-related expense in 2010 and $22.3 million in charges associated with cost reduction efforts in 2009, operating income declined $17.3 million from the prior-year level to 12.1 percent of revenue, influenced by lower overall pricing and increased variable-related operating expenses.

Smith Oilfield

Revenues

The Smith Oilfield segment provides three-cone and diamond drill bits, tubulars, borehole enlargement tools, drill motors, directional drilling, measurement-while-drilling, and logging-while-drilling services, as well as completions, coiled tubing, cased-hole wireline and drilling related services. The Smith Oilfield segment has a high level of North American ~~exposure~~ exposure with 5859 percent of revenues concentrated in those markets, driven in part, by the significance of ~~increased~~ increased unconventional drilling projects in the U.S. land-based market and the complexity of drilling programs, which drive demand for a wider range of product offerings. ~~For~~The Smith Oilfield segment reported revenues of $650.2 million for the three months ended ~~March~~June 3130, 2010, ~~Smith~~25 percent ~~Oilfield~~above the second quarter of 2009. While the majority of the quarter-over-quarter increase was reported in North America driven by higher land-based exploration and production activity, significant growth was reported in all geographic regions and across most of the segment’s product offerings. For the six-month period, the Smith Oilfield segment revenues totaled $~~574~~1.822 ~~million~~billion, atwo 16 percent ~~decline~~above ~~from~~the amounts reported in the comparable prior-year period,. ~~driven~~The byrevenue ~~reduced~~comparison ~~demand~~was influenced ~~for~~primarily ~~premium~~by ~~tubular~~lower ~~products,~~ U.S. product and service pricing ~~pressures~~from ~~and~~levels ~~lower~~experienced ~~tender~~in ~~sales~~first ofquarter ~~three-cone~~2009 ~~drill~~as ~~bits~~well as reduced tubular product sales.

Operating Income

Operating income for the Smith Oilfield segment was $5681.50 million, or 912.85 percent of revenues, for ~~the~~ the three months ended ~~March~~June 3130, 2010. Operating margins ~~declined six~~ rose 3.4 percentage points from the prior-year period reflecting the ~~loss~~growth ofin ~~a significant proportion of~~ fixed-cost rental and service offering revenue, Uand the non-recurrence of $8.S6 million in employee severance-related charges reported in the second quarter of 2009. ~~pricing~~After ~~pressures~~excluding ~~and~~employee aseverance ~~decrease~~charges incurred in ~~higher~~the prior-~~relative~~year ~~margin~~quarter, ~~drill~~operating ~~bit~~income ~~sales~~was $24.8 million On above anthe ~~absolute~~June ~~dollar~~2009 ~~basis~~quarter attributable to the increase in business volumes. For the six months ended June 30, 2010, the Smith Oilfield segment operating income was $49137.25 million, ~~below~~reflecting operating margins of 11.2 percent. Compared to the prior ~~year’s~~six-month ~~level~~period, the ~~influenced~~ margin bydecline ~~reduced~~reflects a shift in the overall business ~~volumes~~mix and increased ~~lower~~pricing ~~product~~pressure ~~pricing~~in the U.S. market from first quarter 2009 levels. After excluding the $1221.40 million in ~~employee~~ charges ~~severance~~related ~~charges~~to ~~incurred~~cost inreduction ~~the~~efforts ~~prior-year~~in ~~quarter~~2009, operating income ~~was~~declined $6136.68 million from the comparable ~~below~~ prior-year level influenced by the ~~March 2009~~shift ~~quarter~~in the overall business mix and increased pricing pressure in the U.S. market.

Distribution

Revenues

The Distribution segment markets pipe, valves, fittings and mill, safety and other maintenance products to energy and industrial markets, primarily through an extensive network of ~~supply~~ 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 9596 percent of ~~first~~current year ~~quarter 2010~~ revenues generated in those markets. Moreover, approximately 24 percent of the segment’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 impacted by crude oil and natural gas prices. ~~Distribution~~For ~~revenues totaled $451.8 million for~~ the ~~first~~ second quarter of 2010, aDistribution ~~decline~~segment ofrevenues ~~21 percent from the comparable~~were ~~prior-year period~~ $490.3 million, ~~The~~which ~~reduction~~represents inan ~~revenue~~increase ~~was~~of 19 percent ~~concentrated~~over in the ~~U.S.~~comparable ~~market and attributable~~2009 ~~primarily to reduced customer project spending for line pipe.~~

period. The expansion in revenue was concentrated in the U.S. market and attributable primarily to an improvement in customer spending for maintenance, repair and operating (“MRO”) supplies in the energy sector operations and increased demand for line pipe. The Distribution segment reported revenues of $942.1 million for the six months ended June 30, 2010, a decline of four percent from the comparable prior-year period. Business volume growth within the energy sector operations for MRO supplies was partially masked by lower demand for line pipe products on a year-to-date basis in the energy and industrial customer base.

Operating Income

Operating income for the Distribution segment was $413.76 million for the three months ended ~~March~~June 3130, 2010, $1023.84 million ~~below~~above the prior-year level primarily reflecting the impact of the ~~significant~~growth ~~reduction~~ in revenue levels. After excluding $01.73 million in charges related to cost-reduction initiatives incurred in the ~~March~~ June 2009 quarter, operating results were $1122.51 million ~~below~~above the ~~comparable~~ prior-year period reflecting the growth in business volumes and reduced line pipe costs. For the first half of 2010, operating income rose $12.6 million above the amount reported in the 2010 period. After considering charges related to 2009 cost reduction efforts, operating income increased $10.7 million from the comparable prior-year period on a revenue decline reflecting higher pricing, partially offset by an increase in variable-based operating expenditures to support the increase in business volumes.

General Corporate

Operating Expenses

Operating expenses for general corporate totaled $5635.87 million for the three months ended ~~March~~June 3130, 2010, an increase of $299.79 million over the prior-year period. The year-over-year comparison was influenced primarily by the net impact of charges and a gain reported in the ~~first quarters of~~ 2010 ~~and 2009~~quarter. During the ~~first~~second quarter of 2010, the Company incurred $1523.40 million of expenses associated with the proposed Merger and an a $114.35 million charge associated with the ~~Company’s~~ revaluation of certain ~~its~~ Venezuelan ~~Bolivar~~U.S. dollar ~~Fuertes~~equivalent ~~denominated~~receivables, partially ~~net~~offset ~~asset~~by ~~position~~a $20.8 million Ingain recognized in connection with the @Balance transaction. For the six months ~~comparable~~ ended ~~prior-year~~June 30, ~~period~~2010, operating expenses totaled $92.5 million, an increase of $39.5 million from the first ~~Company~~half ~~recognized~~of 2009. The increase is principally attributable to the net impact of charges and a gain reported in the current year, which include $238.54 million ~~loss~~expenses onassociated anwith the ~~interest-rate~~proposed Merger, $15.8 million related to the revaluation ~~contract~~of its Venezuelan Bolivar Fuertes denominated net asset position and certain U.S. dollar based billings, and a $20.8 million gain recognized in connection with the @Balance transaction. After excluding ~~these~~net charges from both periods, operating expenses increased $58.56 million from the first ~~March 2009~~half ~~quarter~~of 2009, attributable inprimarily ~~part~~ to higher expenses associated with the Company’s recent debt placements and incentive compensation programs.

23 29

Consolidated Results

For the periods indicated, the following table summarizes the results of operations of the Company and presents these results as a percentage of total revenues (dollars in thousands):

	Three Months Ended March 31,
	Three Months Ended June 30,										Six Months Ended June 30,
	2010					2009					2010					2009
	Amount			%		Amount			%		Amount			%		Amount			%
Revenues	$	2,~~137~~296,~~811~~063			100	$	21,~~411~~944,~~479~~289			100	$	4,433,874			100	$	4,355,768			100
Gross profit		~~591~~658,~~180~~669			2829		~~692~~529,~~302~~030			2927		1,249,849			28		1,221,332			28
Selling, general and administrative expenses		~~466~~467,~~301~~216			2220		~~450~~395,~~624~~726			1920		933,517			21		846,350			19
Operating income		~~124~~191,~~879~~453			69		~~241~~133,~~678~~304			107		316,332			7		374,982			9
Interest expense		3736,~~722~~917			2		2742,~~524~~803			12		74,639			2		70,327			2
Interest income		(~~678~~890	)		–—		(~~358~~729	)		–—		(1,568	)		—		(1,087	)		—
Income before income taxes		87155,~~835~~426			47		~~214~~91,~~512~~230			95		243,261			5		305,742			7
Income tax provision		4150,~~239~~229			2		7027,~~318~~957			32		91,468			2		98,275			2
Noncontrolling interests in net income of subsidiaries		3540,~~055~~123			12		4738,~~259~~887			2		75,178			2		86,146			2
Net income attributable to Smith	$	1165,~~541~~074			13	$	9624,~~935~~386			41	$	76,615			1	$	121,321			3

Consolidated revenues were $2.130 billion for the three months ended ~~March~~June 3130, 2010, aan ~~decrease~~increase of 11 18 percent from the level reported in the comparable 2009 period. Over three-quarters ~~90 percent~~ of the year-over-year growth ~~decline~~ in revenue was reported in the ~~U.S.~~North American land market, influenced by continued ~~lower~~ improvement in customer demand for ~~tubular~~the ~~products,~~Company’s ~~including~~drilling ~~line pipe~~ and ~~premium~~completion ~~drill~~offerings ~~collars~~ and ~~pipe, as~~MRO ~~well~~ supplies. asRevenues ~~three-cone~~outside ~~drill~~of ~~bits.~~North ~~The~~America ~~unfavorable~~rose ~~revenue~~eight ~~comparison~~percent from ~~also reflects~~ the ~~impact~~second quarter of ~~a decline~~2009 indue ~~drilling~~to ~~activity~~increased customer spending in the ~~offshore~~Europe, ~~sector~~Africa and ~~2009~~Latin ~~market-driven~~America ~~pricing~~regions. ~~contraction for~~For the ~~Company’s~~first ~~products~~half ~~and~~of ~~services~~2010, inconsolidated ~~response~~revenues tototaled $4.43 billion, ~~the~~or ~~sharp~~two ~~fall~~percent inabove ~~activity~~the ~~levels~~amount inreported in the ~~United States~~comparable 2009 period. ~~Revenues~~The ~~outside~~impact of the ~~United~~higher ~~States~~land ~~decreased~~based drilling ~~two~~in ~~percent~~North ~~from~~America ~~the~~and ~~first~~increased ~~quarter~~customer ofactivity ~~2009~~in ~~due~~ Europe, toAfrica ~~the~~and ~~influence~~Latin America regions was partially offset by reduced customer purchases of tubular goods. The revenue comparison also reflects the ~~timing~~impact of ~~customer~~a decline in drilling activity onin ~~demand~~the ~~for~~offshore ~~drilling~~sector and ~~completion~~market-driven pricing ~~fluids~~ contraction ~~and~~for ~~waste~~the ~~management~~Company’s ~~systems~~products inand services subsequent to the ~~Middle~~first ~~East/Far~~quarter ~~East~~of ~~region,~~2009 ~~partially~~in ~~offset~~response byto the sharp ~~effect~~ fall ofin ~~higher~~ activity levels in ~~Canada~~the United States.

Gross profit ~~decreased~~rose $~~101~~129.16 million, or 1525 percent, from the prior-year period to $~~591~~658.27 million for the ~~first~~ second quarter of 2010. The gross profit ~~decline~~expansion is attributable to the period-to-period ~~reduction~~ increase in revenues across all business segments. asConsolidated gross ~~well~~profit asmargins ~~lower~~were ~~pricing~~28.7 percent ~~due~~in tothe ~~competitive~~second ~~pressures~~ quarter inof 2010, which is 150 basis points above the prior-year Ulevel.S. ~~market~~The ~~and~~gross ~~the~~margin ~~extension~~improvement orreflects ~~award~~the affect of ahigher ~~number~~oilfield ofrental ~~long-term~~and ~~contracts~~service involumes ~~2009.~~as well as ~~Consolidated~~ lower ~~gross~~line ~~profit~~pipe ~~margins~~product ~~were~~costs 27within the Distribution segment.~~7 percent~~ Gross inprofit for the ~~first~~six-month ~~quarter~~period ofended June 30, 2010 was $1.25 billion, ~~contracting~~an ~~one~~increase of $28.5 million, or ~~percentage~~ two ~~point~~percent, from the prior-year level. The ~~gross~~half-year ~~margin~~comparison reflects ~~deterioration~~the ~~was~~impact ~~reported~~of ~~within~~lower ~~the~~pricing due to competitive ~~oilfield-related~~ pressures ~~operations~~in ~~reflecting~~the U.S. market and the ~~impact~~extension ofor award of a ~~shift~~number of long-term contracts in ~~revenue~~early ~~mix~~2009 ~~and~~which ~~lower~~did ~~overall~~not fully ~~pricing~~impact reported results until the second quarter of 2009.

Selling, general and administrative expenses totaled $~~466~~467.32 million for the three months ended ~~March~~ June 3130, 2010, aan ~~three~~ 18 percent increase over the amounts reported in the prior-year quarter. The reported ~~expenses~~growth ~~during~~in ~~the first quarter 2010 were influenced by a $23.0 million charge~~operating ~~associated~~ expenses ~~with~~is ~~the~~attributable ~~revaluation~~primarily ofto the ~~Company’s~~reported ~~Venezuelan~~revenue increase, ~~Bolivar~~continued ~~Fuertes~~investment ~~denominated~~in ~~net~~infrastructure ~~asset~~to support ~~position~~ growth and, ~~$16.6 million~~to ina ~~business~~lesser ~~combination~~extent, ~~transaction-related~~net ~~expenses,~~charges ~~primarily associated~~recognized ~~with~~in the comparable ~~proposed Merger~~periods. ~~The~~During ~~comparable~~the ~~prior-year~~second quarter ~~included~~of 2010, the Company recorded $3223.37 million in ~~employee~~ ~~severance~~business combination transaction-related ~~costs~~expenses and aan $211.59 million ~~loss~~charge associated onwith anthe ~~interest-rate~~revaluation ~~contract.~~of ~~After~~certain ~~excluding~~Venezuelan ~~these~~ U.S. dollar ~~charges~~equivalent ~~from the respective periods~~receivables, ~~selling,~~partially ~~general~~offset ~~and~~by ~~administrative expenses rose~~ a $1020.9 8 million ~~from~~gain ~~the~~recognized ~~prior-year~~in ~~period~~connection ~~reflecting~~with athe @Balance ~~shift~~transaction. inThe ~~revenue~~comparable ~~mix~~prior-year ~~and~~quarter ~~continued~~included $13.0 million ~~investment~~ in ~~infrastructure~~ toemployee ~~support~~severance-related ~~international growth~~costs.

~~Net interest expense, which represents interest expense less interest income, equaled $37.0 million~~ ~~in the first quarter of 2010. The $9.9 million year-over-year reported increase in net interest~~ ~~expense is attributable to higher interest rates associated with the refinancing of short-term~~ 30 ~~indebtedness with a fixed-rate debt issuance during March of 2009 and was partially offset by reduced debt levels.~~

~~The~~ Selling, ~~effective~~general ~~tax~~and ~~rate~~administrative ~~for~~expenses ~~the March 2010 quarter was 47~~totaled $933.05 ~~percent~~million ~~as compared to 32.8 percent~~ for the ~~prior~~six-~~year~~month period. ~~The~~ended ~~Company’s current quarter results include $23.0~~June ~~million of losses~~30, ~~related~~ 2010, ~~to devaluation of the Venezuelan local currency denominated net asset position and certain business combination transaction-related expenses for~~ which nois ~~tax~~10 percent ~~benefit~~above ~~was~~amounts ~~recognized.~~reported Onin athe ~~combined~~ first ~~basis,~~half ~~the effect~~ of ~~these~~2009. ~~items accounted for the~~ The year-over-year increase in ~~the effective~~operating ~~tax~~expenses ~~rate.~~was ~~After~~driven ~~excluding non-deductible~~principally ~~charges~~by ~~reported in 2010,~~ the ~~effective tax~~ ~~rates~~ business ~~for~~expansion ~~both~~reported ~~periods were lower than~~ the ~~U.S.~~second ~~statutory~~quarter ~~rate due to the impact~~ of ~~M-I~~2010, ~~SWACO’s~~net ~~U.S.~~ charges ~~partnership~~recognized ~~earnings~~in ~~for which~~ the ~~noncontrolling~~comparable ~~interest~~periods ~~partner~~and ~~is directly responsible for~~continued ~~its~~ investment ~~related~~in ~~income taxes. The Company properly consolidates~~ the ~~pretax income related to the noncontrolling partner~~Company’s ~~share~~global ~~of U~~infrastructure.~~S. partnership earnings but excludes the related tax provision.~~

~~Noncontrolling~~ Net ~~interests~~interest inexpense, ~~net~~which represents interest expense less interest income, ofequaled ~~subsidiaries~~$36.0 million ~~reflects~~in the ~~portion~~second quarter of ~~the~~2010. ~~results~~The of$6.0 million ~~majority~~ year-~~owned~~over-year reported ~~operations~~decline ~~which~~in ~~are~~net ~~applicable~~interest toexpense ~~the~~reflects ~~noncontrolling~~a ~~interest~~reduction ~~partners. Expense~~in ~~related~~ outstanding todebt ~~noncontrolling~~levels. ~~interests~~Net ~~totaled~~interest expense increased $353.18 million ~~for~~from the ~~March 2010~~first ~~quarter,~~six months of 2009 to $1274.26 million ~~below~~ for the ~~amount~~first ~~reported~~half inof ~~the~~2010, ~~prior-year~~attributable ~~period~~to higher ~~primarily~~interest rates associated with athe ~~decline~~refinancing inof ~~profitability~~ short-term ~~levels~~indebtedness inwith ~~the~~a Mfixed-Irate ~~SWACO~~debt ~~joint~~issuance ~~venture~~during March of 2009 and was partially offset by reduced debt levels.

The effective tax rate approximated 32 percent and 38 percent for the three-month and six-month periods ended June 30, 2010, respectively. The Company’s 2010 second quarter and year-to-date results include $7.6 million and $30.6 million of losses related to devaluation of the Venezuelan local currency denominated net asset position and certain business combination transaction-related expenses for which no tax benefit was recognized. On a combined basis, the effect of these items accounted for the majority of the year-over-year increases in the effective tax rates. After excluding non-deductible charges reported in 2010, the effective tax rates for both periods were lower than the U.S. statutory rate due to the impact of M-I SWACO’s U.S. partnership earnings for which the noncontrolling interest partner is directly responsible for its related income taxes. The Company properly consolidates the pretax income related to the noncontrolling partner’s share of U.S. partnership earnings but excludes the related tax provision.

Noncontrolling interests in net income of subsidiaries reflects the portion of the results of majority-owned operations which are applicable to the noncontrolling interest partners. Expense related to noncontrolling interests totaled $40.1 million for the June 2010 quarter, $1.2 million above the amount reported in the prior-year period primarily associated with a increase in profitability levels in the M-I SWACO joint venture. Noncontrolling interests declined $11.0 million from amounts reported in the first half of 2009 due principally to a reduction in the first quarter 2010 profitability levels in the M-I SWACO joint venture.

Liquidity and Capital Resources

General

Cash and cash equivalents ~~decreased~~equaled $~~440~~497.57 million ~~during~~as ~~the first quarter~~ of June 30, 2010, ~~and~~a ~~equaled~~ decrease $~~547~~490.87 million asduring ofthe ~~March 31,~~ first six months of 2010. During the first ~~three~~half ~~months~~ of 2010, the Company generated $53222.01 million of cash flows from operations, which compares to $~~197~~651.83 million generated in the prior-year period. The reduction in cash flows generated from operations was driven by ~~the reduced year-on-year profitability levels and~~ increased investment in working capital, primarily accounts receivable, and the lower year-on-year profitability levels.

Cash flows used in investing activities for the ~~March 2010~~six-month period ended June 30, 2010 totaled $83270.23 million, and relates principally to investments in property, plant and equipment and the acquisition of the remaining 65-percent interest in @Balance. When compared to the first ~~quarter~~ ofsix months of 2009, cash flows used in investing activities ~~increased~~for the first half of 2010 rose $66190.31 million ~~due~~with toapproximately two-thirds of the ~~$65.0 million~~increase ofattributable ~~proceeds~~to ~~received~~acquisition inand ~~connection~~disposition transactions ~~with~~completed in the ~~sale~~comparable ofperiods. To a lesser extent, the ~~W-H~~growth ~~fluid~~in ~~operations~~exploration and production activity in 2010 ~~the~~resulted in higher capital spending ~~prior~~ year-over-year ~~period~~.

As The aCompany ~~result~~has ofincreased ~~the~~its ~~more~~expected ~~favorable~~capital ~~industry~~investment ~~environment~~for property, ~~the~~plant ~~Company’s~~and ~~capital~~equipment ~~expenditure expectation~~ for fiscal 2010 ~~has~~in ~~been~~response ~~increased~~to bya continuing ~~approximately~~favorable ~~15 percent.~~industry ~~The~~environment, ~~Company~~estimating ~~expects~~spending ~~that~~ to range from $420 million to $450 million. The allocation of additional funds by the Company for capital ~~expenditures~~ expenditures throughout the year is likely and ~~will~~would be implemented in accordance with the terms of the Merger Agreement.

Cash flows used in financing activities totaled $~~400~~432.4 million for the ~~three~~six months ended ~~March~~June 3130, 2010, $~~260~~79.95 million ~~above~~below the prior-year ~~quarter~~period. During the first half ~~quarter~~ of 2010, the Company used a portion of the cash received in the November 2009 equity offering to repay ~~$370.1 million of~~ outstanding borrowings under various loan agreements and fund $2959.86 million of common stock dividends.

~~The Company’s primary internal source of liquidity is cash flow generated from operations. Cash~~ ~~flow generated from operations is primarily influenced by the level of worldwide drilling~~ activity, which affects profitability levels and working capital requirements. Capacity under revolving credit agreements is also available, if necessary, to fund operating or investing activities. As of March 31~~, 2010, the Company had no amounts drawn or letters of credit issued~~ under various U.S. revolving credit facilities, resulting in $1.4 billion of current capacity available for operating or investing needs. The Company also has revolving credit facilities in place outside of the United States, which are generally used to finance local operating needs. At March 31, 2010, the Company had available borrowing capacity of $160 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 and is subject to the restrictions imposed by the Merger Agreement. As of March 31, 2010, the Company was within the covenant compliance thresholds under its various loan indentures, as amended, providing the ability to access available borrowing capacity. Management believes internally generated cash flow combined with capacity available under existing credit facilities will be sufficient to finance capital expenditures and working capital needs of the existing operations for the foreseeable future.

The Company’s primary internal source of liquidity is cash flow generated from operations. Cash flow generated from operations is primarily influenced by the level of worldwide drilling activity, which affects profitability levels and working capital requirements. Capacity under revolving credit agreements is also available, if necessary, to fund operating or investing activities. As of June 30, 2010, the Company had no amounts drawn or letters of credit issued under various U.S. revolving credit facilities, resulting in $1.4 billion of current capacity available for operating or investing needs. Subsequent to June 30, 2010, the Company’s $375.0 million revolving credit facility expired and was not replaced. The Company also has revolving credit facilities in place outside of the United States, which are generally used to finance local operating needs. At June 30, 2010, the Company had available borrowing capacity of $138 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 and is subject to the restrictions imposed by the Merger Agreement. As of June 30, 2010, the Company was within the covenant compliance thresholds under its various loan agreements, as amended, providing the ability to access available borrowing capacity. Management believes internally generated cash flow combined with capacity available under existing credit facilities 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 and businesses complementary to the Company’s operations, subject to the restrictions imposed by the Merger Agreement. In addition to potential external acquisition candidates, if the Merger is not consummated, either we or our M-I SWACO joint venture partner, Schlumberger, can offer to sell to the other party its entire ownership interest in the joint venture in exchange for a cash purchase price specified by the offering partner. If the initiating partner’s offer to sell is not accepted, such party is obligated to purchase the other party’s interest at the same valuation per interest. If we agree to purchase Schlumberger’s joint venture interest, whether pursuant to these provisions or otherwise, we would need to fund the transaction. Our funding could include issuing equity, resulting in dilution to our existing stockholders, obtaining additional debt, which may require waivers of applicable debt covenants, or obtaining other financing, as well as using available cash to fund the purchase. This financing and/or use of cash could impact our ability to fund working capital requirements, make capital expenditures and investments or fund other general corporate requirements, and could limit our ability to make future acquisitions. Should we instead not purchase Schlumberger’s interest, we would no longer have an interest in the joint venture.

The Company makes regular quarterly distributions under a dividend program. The current annual payout under the program of approximately $120 million is expected to be funded with future cash flows from operations and, if necessary, amounts available under existing credit facilities. The level of future dividend payments will be at the discretion of the Company’s Board of Directors, subject to the restrictions imposed by the Merger Agreement, which permits regular quarterly dividends in an amount up to $0.12 per share, and will depend upon the Company’s financial condition, earnings, cash flows, compliance with certain debt covenants and other relevant factors.

The Company’s Board of Directors maintains a share repurchase program that allows for the repurchase of up to 20 million shares of the Company’s common stock, subject to regulatory issues, market considerations and other relevant factors. As of ~~March~~June 3130, 2010, the Company had 15.2 million shares remaining under the current authorization. Future repurchases under the program may be be executed from time to time, in the open market or in privately negotiated transactions and will be funded with cash flows from operations or amounts available under existing credit facilities. The share repurchase program has been suspended during the pendency of the Merger in order to comply with the restrictions imposed by the Merger Agreement.

Commitments and Contingencies

Litigation

Schlumberger and one of its affiliates, challenging the Merger. Four of the lawsuits were filed in the District Court of Harris County, Texas, and have been consolidated into a single action in the 164th District Court of Harris County, Texas (the “Texas Action”), and one lawsuit is pending in the Delaware Court of Chancery (the “Delaware Action,” and collectively with the Texas Action, the “Actions”). The parties in the Actions have agreed to an expedited discovery schedule and to the coordination of pleadings and discovery in advance of any preliminary injunction hearing, which will be heard only in the Texas Action. On April 19, 2010, the court in the Delaware Action approved the parties’ agreement concerning the coordination of the Actions and agreed to otherwise stay the Delaware proceedings through any preliminary injunction hearing in Texas. Plaintiffs in the Actions have served a consolidated amended petition for breach of fiduciary duty and a verified amended class action complaint, respectively. The amended pleadings are substantively similar and allege that the Company’s directors breached their fiduciary duties by, among other things, causing the Company to enter into the Merger Agreement at an allegedly inadequate and unfair price, agreeing to transaction terms that improperly inhibit alternative transactions and failing to provide material information to the Company’s stockholders in the preliminary proxy statement filed in connection with the Merger. Specifically, the pleadings allege that the preliminary proxy statement omits material information relating to, among other things: the analyses performed by, and the information relied upon by, UBS; any strategic alternatives to the Merger considered by UBS; UBS’s involvement in the negotiations between the Company and Schlumberger; the fee to be paid to UBS in connection with the Merger; and any negotiations or plans concerning the employment of Smith management after consummation of the Merger. The pleadings also allege that the Company and Schlumberger aided and abetted the directors’ breaches of fiduciary duties. The pleadings seek, among other things, an injunction barring defendants from consummating the proposed transaction, declaratory relief and attorneys’ fees.

The Company believes that the lawsuits in which it is named are without merit and intends to defend these lawsuits vigorously.

On April 20, 2010, a fire and explosion occurred onboard the semisubmersible drilling rig Deepwater Horizon, owned by Transocean Ltd. and under contract to a subsidiary of BP plc. Pursuant to a contract between M-I SWACO and BP for the provision of certain services by M-I SWACO under the direction of BP, five employees of M-I SWACO were aboard the Deepwater Horizon at the time of the incident and unfortunately two of them were killed (the other three were uninjured). A number of legal actions, certain of which name an M-I SWACO entity as a defendant, have been filed in connection with the Deepwater Horizon incident, and additional legal actions may be filed in the future. Smith is currently investigating the incident and the liabilities that could potentially arise therefrom, and is assessing the availability of contractual indemnities and insurance coverage. However, based on information currently known, the amount of any potential loss attributable to M-I SWACO with respect to potential liabilities related to the incident would not be material.

26 33

Standby Letters of Credit

Insurance

Environmental

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 2009 Annual Report on Form 10-K, the Company has described the critical accounting policies that require management’s most significant judgments and estimates. There have been no material changes in these critical accounting policies.

Recent Accounting Pronouncements

From time to time, new accounting standards are issued by the Financial Accounting Standards Board (“FASB”). On January 1, 2010, the Company adopted a new accounting standard, which amends previous guidance on the consolidation of variable interest entities (“VIE”). The standard modifies how an enterprise determines the primary beneficiary that would consolidate the VIE from a quantitative risks and rewards calculation to a qualitative approach. Such assessment is required to be performed on a continuous basis and is influenced by, among other things, an enterprise’s ability to direct the most significant activities that influence the VIE’s operating performance. The adoption of this accounting standard did not have a material impact on the Company’s consolidated condensed financial statements.

In October 2009, the FASB issued an update to existing guidance with respect to revenue recognition for arrangements with multiple deliverables. This update will allow allocation of ~~consideration~~ consideration received for qualified separate deliverables based on estimated selling prices for both delivered and undelivered items when vendor-specific or third-party evidence is not available. Additionally, disclosure of the nature of multiple element arrangements, the general timing of their delivery, ~~and~~ and significant factors and estimates used to ~~determine estimated selling prices are required. The~~ ~~Company is currently evaluating this update, which will be adopted for new revenue arrangements entered into or materially modified beginning January 1, 2011.~~

27 34

determine estimated selling prices are required. The Company is currently evaluating this update, which will be adopted for new revenue arrangements entered into or materially modified beginning January 1, 2011.


Item 3.	*Quantitative and Qualitative Disclosures about Market Risk*

The Company is exposed to market risk primarily associated with changes in interest rates and foreign exchange rates and enters into various hedging transactions to mitigate these risks. The Company does not use financial instruments for trading or speculative purposes. During the reporting period, no events or transactions have occurred which would materially change the information disclosed in the Company’s 2009 Annual Report on Form 10-K.


Item 4.	*Controls and Procedures*

Evaluation of disclosure controls and procedures. Our management, with the participation of our principal executive and financial officers, evaluated the effectiveness of our disclosure controls ~~and~~ and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)) as of ~~March~~June 3130, 2010. Based upon that evaluation, our principal executive and financial officers concluded that as of ~~March~~June 3130, 2010, our disclosure controls ~~and~~ and procedures were effective to ensure that information required to be disclosed by us in reports we file or submit under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms, and (2) accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate, to allow timely decisions regarding required disclosure.

Changes in internal control over financial reporting. There has been no change in the Company’s internal control over financial reporting during the quarter ended ~~March~~June 3130, 2010 that has ~~materially~~ materially affected, or is reasonably likely to materially affect, the Company’s internal controls over financial reporting.

PART II – — OTHER INFORMATION


Item 1.	*Legal Proceedings*

Subsequent to the announcement of the ~~proposed~~ Merger, five putative class action lawsuits were commenced on behalf of stockholders of the Company against the Company and its directors, and in certain cases against Schlumberger and one of its affiliates, challenging the ~~proposed transaction~~Merger. Four of the lawsuits were filed in the District Court of Harris County, Texas, ~~which~~and have been consolidated into a single action in the 164th District Court of Harris County, Texas (the “Texas Action”), and one lawsuit is pending in the Delaware Court of Chancery (the “Delaware Action,” and collectively with the Texas Action, the “Actions”). The ~~plaintiff~~parties in the Actions ~~Texas~~have ~~Action has~~agreed ~~filed~~to aan ~~First~~expedited ~~Amended~~discovery ~~Petition.~~schedule ~~The~~and ~~Actions~~to the ~~variously~~coordination ~~allege~~of ~~that~~pleadings ~~the~~and ~~Company’s~~discovery ~~directors breached~~in ~~their~~advance ~~fiduciary~~of ~~duties~~any preliminary byinjunction hearing, ~~among~~which ~~other~~will ~~things,~~be ~~causing~~heard ~~Smith~~only toin ~~enter~~the Texas ~~into~~Action. On April 19, 2010, the ~~Merger~~court in the Delaware ~~Agreement~~ Action atapproved anthe ~~allegedly~~parties’ ~~inadequate~~agreement ~~and~~concerning ~~unfair~~the coordination ~~price~~of the Actions and ~~agreeing~~agreed to ~~transaction~~otherwise ~~terms~~stay ~~that~~the ~~improperly~~ Delaware ~~inhibit~~proceedings ~~alternative~~through ~~transactions.~~any ~~The~~preliminary ~~Texas~~injunction ~~Action~~hearing in ~~separately~~Texas. ~~alleges~~Plaintiffs ~~that~~in the ~~Company aided~~Actions ~~and~~have ~~abetted~~served ~~the~~a ~~directors’~~consolidated amended ~~breaches~~petition for breach of fiduciary ~~duties,~~duty and ~~both~~a ~~Actions~~verified amended ~~allege~~class ~~that~~action complaint, respectively. The amended ~~Schlumberger~~ pleadings ~~aided~~are substantively similar and ~~abetted~~allege that the Company’s directors’ ~~breaches~~breached oftheir fiduciary duties. ~~The complaints seek~~by, among other things, ancausing ~~injunction~~the ~~barring~~Company ~~defendants~~to ~~from~~enter ~~consummating~~into the ~~proposed transaction,~~Merger ~~declaratory~~ Agreement ~~relief~~at ~~and~~an ~~attorneys’~~allegedly ~~fees.~~inadequate ~~The~~and ~~parties~~unfair inprice, ~~the~~agreeing to ~~Texas~~transaction ~~Action~~terms ~~and~~that ~~Delaware~~improperly ~~Action~~inhibit ~~have~~alternative ~~agreed~~ transactions toand anfailing ~~expedited~~to ~~discovery~~provide ~~schedule~~material ~~and~~information to the Company’s ~~coordination~~stockholders ofin ~~pleadings~~the ~~and~~preliminary ~~discovery~~proxy instatement ~~advance~~ filed ofin ~~any~~connection ~~preliminary~~with ~~injunction~~the ~~hearing~~Merger. Specifically, ~~which~~the ~~will~~pleadings allege bethat ~~heard~~the ~~only~~preliminary inproxy ~~the~~statement ~~Texas~~omits ~~Action. On~~material ~~April 19,~~ information ~~2010~~relating to, ~~the~~among ~~court~~other inthings: the ~~Delaware~~analyses performed ~~Action~~by, ~~approved~~and the ~~parties’~~information ~~agreement~~relied ~~concerning~~upon by, UBS; any strategic alternatives to the Merger considered by UBS; ~~coordination~~ UBS’s ofinvolvement in the ~~Texas~~negotiations between the Company and ~~Delaware~~Schlumberger; ~~actions~~the ~~and~~fee ~~agreed~~to be paid to ~~otherwise~~UBS ~~stay~~in ~~the~~connection ~~Delaware~~with ~~proceedings~~ the ~~through~~Merger; and any ~~preliminary~~negotiations ~~injunction~~or ~~hearing~~plans inconcerning ~~Texas.~~the employment of Smith management after consummation of the Merger. The ~~Company~~pleadings ~~believes~~also allege that the ~~lawsuits~~ ~~are~~Company ~~without~~and ~~merit~~Schlumberger aided and ~~intends~~abetted tothe ~~defend~~directors’ ~~these~~breaches ~~lawsuits~~of ~~vigorously~~fiduciary duties. The

~~The Company is also 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, results of operations or cash flows.~~ 35

pleadings seek, among other things, an injunction barring defendants from consummating the proposed transaction, declaratory relief and attorneys’ fees.

The Company believes that the lawsuits in which it is named are without merit and intends to defend these lawsuits vigorously.

On April 20, 2010, a fire and explosion occurred onboard the semisubmersible drilling rig Deepwater Horizon, owned by Transocean Ltd. and under contract to a subsidiary of BP plc. Pursuant to a contract between M-I SWACO and BP for the provision of certain services by M-I SWACO under the direction of BP, five employees of M-I SWACO were aboard the Deepwater Horizon at the time of the incident and unfortunately two of them were killed (the other three were uninjured). A number of legal actions, certain of which name an M-I SWACO entity as a defendant, have been filed in connection with the Deepwater Horizon incident, and additional legal actions may be filed in the future. Smith is currently investigating the incident and the liabilities that could potentially arise therefrom, and is assessing the availability of contractual indemnities and insurance coverage. However, based on information currently known, the amount of any potential loss attributable to M-I SWACO with respect to potential liabilities related to the incident would not be material.


Item 1A.	*Risk Factors*

The risk factors discussed below update the Risk Factors previously disclosed in Item 1A to Part I of our Form 10-K for the year ended December 31, 2009.

Risks Related To Our Business

The significant deterioration in the global business environment and related factors could adversely impact our financial condition and results of operations.

The deterioration in the global business environment has led to a significant reduction in commodity prices from average levels reported in 2008, which has contributed to lower cash flow generation for oil and natural gas exploration and production companies. In addition, the reduction in the availability and increased cost of financing which began in the second half of 2008 had a significant impact on a number of our customers. These factors, if continued or worsened, could contribute to a sustained or further decline in our customers’ spending levels. As a result, we must manage our costs, including our workforce levels, to match the decline. A continued reduction in the level of future investment or our inability to reduce our costs sufficiently to match the material slowdown in drilling activity could have a material adverse effect on our results of operations, financial condition and cash flows.

Moreover, if the business environment experiences a significant deterioration from current levels, we may be required to record goodwill and/or other intangible asset impairment losses, which could have a material adverse effect on our results of operations and financial condition and our compliance with applicable debt covenants.

The financial and credit market environment may limit our ability to expand our business through acquisitions and to fund necessary expenditures.

The global financial and credit market environment has increased the cost of financing and at times has limited its availability. Any inability to access the credit and capital markets could limit our ability to make significant business acquisitions and pursue business opportunities. If the Merger is not consummated, either we or our M-I SWACO joint venture partner, Schlumberger, can offer to sell to the other party its entire ownership interest in the joint venture in exchange for a cash purchase price specified by the offering partner. If the initiating partner’s offer to sell is not accepted, such party is obligated to purchase the other party’s interest at the same valuation per interest. If we agree to purchase Schlumberger’s joint venture interest, whether pursuant to these provisions or otherwise, we would need to fund the transaction. Our funding could include issuing equity, resulting in dilution to our existing stockholders, obtaining additional debt, which may require waivers of applicable debt covenants, or obtaining other financing, as well as using available cash to fund the purchase. This financing and/or use of cash could impact our ability to fund working capital requirements, make capital expenditures and investments or fund other general corporate requirements, and could limit our ability to make future acquisitions. Should we instead not purchase Schlumberger’s interest, we would no longer have an interest in the joint venture. The failure to pursue significant acquisition opportunities, or the consequences of seeking waivers, issuing equity or obtaining other financing, could have a material adverse effect on our future results of operations, financial condition and cash flows.

We are dependent on the level of oil and natural gas exploration and development activities.

Demand for our products and services is dependent upon the level of oil and natural gas exploration and development activities. The level of worldwide oil and natural gas development activities is primarily influenced by the price of oil and natural gas, as well as price expectations. The current state of world economies could lead to further weakness in exploration and production spending levels, further reducing demand for our products and services and adversely impacting future results. In addition to oil and natural gas prices, the following factors impact exploration and development activity and may lead to significant changes in worldwide activity levels:

• overall level of global economic growth and activity; • actual and perceived changes in the supply of and demand for oil and natural gas; • political stability and policies of oil-producing countries; • finding and development costs of operators; • decline and depletion rates for oil and natural gas wells; • seasonal weather conditions that temporarily curtail drilling operations; and • laws and regulations related to environmental or energy security matters, including those addressing alternative energy sources and the risks of global climate change.

• seasonal weather conditions that temporarily curtail drilling operations; and • laws and regulations related to environmental or energy security matters, including those addressing alternative energy sources and the risks of global climate change.

Changes in any of these factors could adversely impact our financial condition, results of operations or cash flows.

A significant portion of our revenue is derived in markets outside of North America.

We are a multinational oilfield service company and generate the majority of our oilfield-related revenues in markets outside of North America. Changes in conditions within certain ~~countries~~ countries that have historically experienced a high degree of political and/or economic instability could adversely impact our operations in ~~such countries and as a result our financial condition,~~ ~~results of operations or cash flows. Additional risks inherent in our non-North American business activities include:~~

such countries and as a result our financial condition, results of operations or cash flows. Additional risks inherent in our non-North American business activities include:


	•	changes in political and economic conditions in the countries in which we operate, including civil uprisings, riots and terrorist acts;

	•	unexpected changes in regulatory requirements affecting oil and natural gas exploration and development activities;

	•	fluctuations in currency exchange rates and the value of the U.S. dollar;

	•	restrictions on repatriation of earnings or expropriation of property without fair compensation;

	•	governmental actions that result in the deprivation of contract or proprietary rights in the countries in which we operate; and

	•	governmental sanctions.

We operate in a highly technical and competitive environment.

We operate in a highly competitive business environment. Accordingly, demand for our products and services is largely dependent on our ability to provide leading-edge, technology-based solutions that reduce the operator’s overall cost of developing energy assets and to commercialize performance-driven new technology. If competitive or other market conditions impact our ability to continue providing superior-performing product offerings, our financial condition, results of operations or cash flows could be adversely impacted.

Regulatory compliance costs and liabilities could adversely impact our earnings and cash available for operations.

We are exposed to a variety of federal, state, local and international laws and regulations relating to matters such as the use of hazardous materials, health and safety, labor and employment, import/export control, currency exchange, bribery, corruption and taxation, and the environment, including laws and regulations governing air emissions, wastewater discharges and waste management. These laws and regulations are complex, change frequently and have tended to become more stringent over time. In the event the scope of these laws and regulations expand in the future, the incremental cost of compliance could adversely impact our financial condition, results of operations or cash flows. For example, the adoption of more stringent laws and regulations that curtailed either directly or indirectly the level of oil and natural gas exploration and development activities could adversely affect our operations by limiting demand for our products and services.

Our industry is experiencing more litigation involving claims of infringement of intellectual property rights.

Over the past years, the industry in which we operate has experienced increased litigation related to the infringement of intellectual property rights. Although no material matters are pending or threatened at this time, we, as well as certain of our competitors, have been named as defendants in various intellectual property matters in the past. These types of claims are typically costly to defend, involve the risk of monetary judgments that, in certain circumstances, are subject to being enhanced and are often brought in venues that have proved to be favorable to plaintiffs. If we are served with any intellectual property claims that we are unsuccessful in defending, it could adversely impact our results of operations, financial condition and cash flows.

Our business operations in countries outside the United States are subject to a number of U.S. federal laws and regulations, including restrictions imposed by the Foreign Corrupt Practices Act (“FCPA”) as well as trade sanctions administered by the Office of Foreign Assets Control (“OFAC”) and the Commerce Department. The FCPA is intended to prohibit bribery of foreign officials or parties and requires public ~~companies in the United States to keep books and records~~ that accurately and fairly reflect those companies’ transactions. OFAC and the Commerce Department administer and enforce economic and trade sanctions based on U.S. foreign policy and national security goals against targeted foreign states, organizations and individuals. If we fail to comply with these laws and regulations, we could be exposed to claims for damages, financial penalties, reputational harm, and incarceration of our employees or restrictions on our operations. We have received an administrative subpoena with respect to our historical business practices in Iran and Sudan. We are conducting a review of our business activities involving Iran and Sudan, and are actively pursuing the termination of all business activities in Iran and Sudan. While the nature and scope of issues that may emerge from this review are yet to be determined, there is a risk that we could identify violations of U.S. sanctions laws, which if pursued by regulatory authorities, could result in administrative or criminal penalties which in certain circumstances could adversely impact our results of operations, financial condition and cash flows.

companies in the United States to keep books and records that accurately and fairly reflect those companies’ transactions. OFAC and the Commerce Department administer and enforce economic and trade sanctions based on U.S. foreign policy and national security goals against targeted foreign states, organizations and individuals. If we fail to comply with these laws and regulations, we could be exposed to claims for damages, financial penalties, reputational harm, and incarceration of our employees or restrictions on our operations. We have received an administrative subpoena with respect to our historical business practices in Iran and Sudan. We are conducting a review of our business activities involving Iran and Sudan, and are actively pursuing the termination of all business activities in Iran and Sudan. While the nature and scope of issues that may emerge from this review are yet to be determined, there is a risk that we could identify violations of U.S. sanctions laws, which if pursued by regulatory authorities, could result in administrative or criminal penalties which in certain circumstances could adversely impact our results of operations, financial condition and cash flows.

The offshore oil and gas operations of our business could be adversely impacted by the Deepwater Horizon drilling rig accident and resulting oil spill.

On April 20, 2010, a fire and explosion occurred onboard the semisubmersible drilling rig Deepwater Horizon, owned by Transocean Ltd. and under contract to a subsidiary of BP plc. In response to this incident, the Minerals Management Service of the U.S. Department of the Interior, or MMS, issued a notice on May 30, 2010 implementing a six-month moratorium on certain drilling activities in the U.S. Gulf of Mexico. The notice also stated that the MMS will not consider during the six-month moratorium period drilling permits for new wells and related activities for specified water depths. In addition, wells covered by the moratorium that were then being drilled were required to halt drilling and take steps to secure the well. On June 22, 2010, the U.S. District Court for the Eastern District of Louisiana issued a preliminary injunction prohibiting the enforcement of the moratorium, which the Department of the Interior has appealed to the Fifth Circuit Court of Appeals. On July 8, 2010, the Court of Appeals denied the government’s request that the district court’s order be stayed while the appeal is pending. On July 12, 2010, the Secretary of the Department of the Interior directed the Bureau of Ocean Energy Management, Regulation and Enforcement, or BOEMRE (formerly named the MMS), to issue a suspension until November 30, 2010 of most deepwater drilling activities for specified drilling configurations and technologies, rather than a moratorium based on water depths. The BOEMRE is expected to issue new safety and environmental guidelines or regulations for drilling in the U.S. Gulf of Mexico and may take other steps that could increase the costs of exploration and production, reduce the area of operations and result in permitting delays.

At this time, Smith can not predict what further impact the Deepwater Horizon incident may have on the regulation of offshore oil and gas exploration and development activity, the cost or availability of insurance coverage to cover the risks of such operations, or what actions may be taken by customers of Smith or other industry participants in response to the incident. Increased costs for the operations of Smith’s customers in the U.S. Gulf of Mexico, along with permitting delays, could affect the economics of currently planned activity in the area and demand for their services and may result over the long term in a shift in activity away from the United States. A prolonged suspension of drilling activity in the U.S. Gulf of Mexico and resulting new regulations could materially adversely affect the Company’s financial condition, results of operations or cash flows.

Our business may be affected by market or regulatory responses to climate change.

Climate change and greenhouse gas emissions are the subject of a significant attention within and outside the United States. Future environmental regulatory developments (such as restrictions, caps, taxes, or other controls) could adversely influence the cost of and demand for oil and natural gas. A reduction in demand for these commodities may result in a decline in exploration and production spending by our customers, which in turn could adversely impact demand and pricing for our products and services. Additionally, restrictions on emissions or other climate change related mandates could result in significant increases in the cost of our ~~goods and services.~~ There is no assurance that in response to escalating expenses, we could increase our prices to customers sufficiently to mitigate the financial impact of such cost expansion. These factors, individually or together, or other unforeseen impacts of climate change regulation could have a material adverse effect on our results of operations, financial condition and cash flows.

goods and services. There is no assurance that in response to escalating expenses, we could increase our prices to customers sufficiently to mitigate the financial impact of such cost expansion. These factors, individually or together, or other unforeseen impacts of climate change regulation could have a material adverse effect on our results of operations, financial condition and cash flows.

Risks Related to the Pending Merger with Schlumberger

The exchange ratio for the Merger is fixed and will not be adjusted in the event of any change in either our or Schlumberger’s stock price.

Upon the closing of the Merger, each share of our common stock will be converted into the right to receive 0.6966 shares of Schlumberger common stock, with cash paid in lieu of fractional shares. This exchange ratio was fixed in the Merger Agreement and will not be adjusted for changes in the market price of either our common stock or Schlumberger common stock. Changes in the price of Schlumberger common stock prior to the merger will affect the market value that a stockholder may be entitled to receive on the date of the Merger. Stock price changes may result from a variety of factors (many of which are beyond our or Schlumberger’s control), including the following factors:


	•	changes in our and Schlumberger’s respective business, operations and prospects;

	•	changes in market assessments of the business, operations and prospects of either company;

	•	market assessments of the likelihood that the Merger will be completed, including related considerations regarding regulatory approvals of the Merger;

	•	interest rates, general market, industry and economic conditions and other factors generally affecting the price of our and Schlumberger’s common stock; and

	•	federal, state and local legislation, governmental regulation and legal developments in the businesses in which we and Schlumberger operate.

The price of Schlumberger common stock at the closing of the Merger may vary from its price on the date the Merger Agreement was executed, on the date of this report, and on the date of our annual meeting to vote on the Merger. As a result, the market value represented by the exchange ratio will also vary.

Because the date that the Merger is completed will be later than the date of our annual meeting, at the time of our annual meeting, a stockholder will not know the exact market value of the Schlumberger common stock that will be received upon completion of the Merger.

If the price of Schlumberger common stock declines between the date of our annual meeting and the effective time of the Merger, including for any of the reasons described above, a stockholder will receive shares of Schlumberger common stock that have a market value upon completion of the Merger that is less than the market value calculated pursuant to the exchange ratio upon the date of our annual meeting. Therefore, while the number of shares of Schlumberger common stock to be issued in the Merger is fixed, a stockholder cannot be sure of the market value of the Schlumberger common stock to be received upon completion of the Merger or the market value of Schlumberger common stock at any time after the completion of the Merger.

Our ability to complete the Merger is subject to stockholder approval, certain closing conditions and the receipt of consents and approvals from government entities which may impose conditions that could adversely affect us or cause the Merger to be abandoned.

The Merger Agreement contains certain closing conditions including approval of the Merger by Smith stockholders, the absence of injunctions or other legal restrictions and that no ~~material~~ material adverse effect shall have occurred to either company. In addition, we will be unable to complete the merger until approvals are received from ~~the United States Department of Justice, the European Commission and~~ various ~~other~~ governmental entities. ~~We and Schlumberger have each recently~~ ~~received a request for additional information and documentary material, often referred to as a “second request” from the Antitrust Division of the United States Department of Justice.~~ Regulatory ~~entities~~agencies may impose certain requirements or obligations as conditions for their approval. The Merger Agreement may require us and/or Schlumberger to accept conditions from these regulators that could adversely impact the combined company. We can provide ~~no assurance that we~~ will satisfy the various closing conditions and that the necessary approvals will be obtained or that any required conditions will not materially adversely affect the combined company following the Merger. In addition, we can provide no assurance that these conditions will not result in the abandonment or delay of the Merger.

no assurance that we will satisfy the various closing conditions and that the necessary approvals will be obtained or that any required conditions will not materially adversely affect the combined company following the Merger. In addition, we can provide no assurance that these conditions will not result in the abandonment or delay of the Merger.

Failure to complete the Merger could negatively impact us.

If the Merger is not completed, our ongoing businesses and the market price of our common stock may be adversely affected and we will be subject to several risks, including being required, under certain circumstances, to pay Schlumberger a termination fee of $340 million; having to pay certain costs relating to the Merger, and diverting the focus of management from pursuing other opportunities that could be beneficial to us, in each case, without realizing any of the benefits of having the Merger completed.

The pendency of the Merger could adversely affect us.

In connection with the pending Merger, some of our customers may delay or defer purchasing decisions, which could negatively impact our revenues, earnings and cash flows regardless of whether the Merger is completed. Additionally, we have agreed in the Merger Agreement to refrain from taking certain actions with respect to our business and financial affairs during the pendency of the Merger, which restrictions could be in place for an extended period of time if completion of the Merger is delayed and could adversely impact our financial condition, results of operations or cash flows.

The combined company could incur substantial expenses related to the integration of the Company and Schlumberger.

We expect that the combined company will incur substantial expenses in connection with integrating our business, policies, procedures, operations, technologies and systems with those of Schlumberger. There are a large number of systems that must be integrated, including information management, purchasing, accounting and finance, sales, billing, payroll and benefits, fixed asset and lease administration systems and regulatory compliance. There are a number of factors beyond the control of either party that could affect the total amount or the timing of all of the expected integration expenses. Moreover, many of the expenses that will be incurred, by their nature, are difficult to estimate accurately at the present time. These expenses could, particularly in the near term, exceed the savings that Schlumberger expects to achieve from the elimination of duplicative expenses and the realization of economies of scale and cost savings and revenue enhancements related to the integration of the businesses following the completion of the Merger. These integration expenses may result in the combined company taking significant charges against earnings following the completion of the Merger.

Following the Merger, the combined company may be unable to successfully integrate our business and Schlumberger’s business and realize the anticipated benefits of the Merger.

The Merger involves the combination of two companies which currently operate as independent public companies. The combined company will be required to devote management attention and resources to integrating its business practices and operations. Potential difficulties the combined company may encounter in the integration process include the following:

• the inability to successfully integrate our business into Schlumberger’s business in a manner that permits the combined company to achieve the cost savings and operating synergies anticipated to result from the Merger, which would result in the anticipated benefits of the Merger not being realized partly or wholly in the time frame currently anticipated or at all; • lost sales and customers as a result of certain customers of either of the two companies deciding not to do business with the combined company, or deciding to decrease their amount of business in order to reduce their reliance on a single company; • integrating personnel from the two companies while maintaining focus on providing consistent, high quality products and customer service; • potential unknown liabilities and unforeseen increased expenses, delays or regulatory conditions associated with the Merger; and • performance shortfalls at one or both of the two companies as a result of the diversion of management’s attention caused by completing the Merger and integrating the companies’ operations.


	•	potential unknown liabilities and unforeseen increased expenses, delays or regulatory conditions associated with the Merger; and

	•	performance shortfalls at one or both of the two companies as a result of the diversion of management’s attention caused by completing the Merger and integrating the companies’ operations.

In addition, we and Schlumberger have operated and, until the completion of the Merger, will continue to operate, independently. It is possible that the integration process could result in the diversion of each company’s management attention, the disruption or interruption of, or the loss of momentum in, each company’s ongoing businesses or inconsistencies in standards, controls, procedures and policies, any of which could adversely affect our ability to maintain relationships with customers and employees or our ability to achieve the anticipated benefits of the Merger, or could reduce the earnings or otherwise adversely affect the business and financial results of the combined company.

We may be unable to retain key employees during the pendency of the Merger.

In connection with the pending Merger, our current and prospective employees may experience uncertainty about their future roles with the combined company following the Merger, which may materially adversely affect our ability to attract and retain key personnel during the pendency of the Merger. Key employees may depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with the combined company following the Merger. Accordingly, no assurance can be given that we will be able to retain key employees to the same extent that we have been able to in the past.

Multiple lawsuits have been filed against us challenging the Merger, and an adverse ruling in any such lawsuit may prevent the Merger from being completed.

Subsequent to the announcement of the Merger, five putative class actions were commenced on behalf of our stockholders against us and our directors, and in certain cases against Schlumberger and one of its affiliates, challenging the Merger. One of the conditions to the closing of the Merger is that no law, order, injunction, judgment, decree, ruling or other similar requirement shall be in effect that prohibits the completion of the Merger. Accordingly, if any of the plaintiffs is successful in obtaining an injunction prohibiting the completion of the Merger, then such injunction may prevent the Merger from becoming effective, or from becoming effective within the expected timeframe.

The required regulatory approvals may not be obtained or may contain materially burdensome conditions that could have an adverse effect on Schlumberger.

Completion of the Merger is conditioned upon the receipt of certain governmental approvals, including, ~~without limitation,~~ the ~~expiration~~approval ~~or termination~~ of the ~~applicable waiting period under~~ ~~the Hart-Scott-Rodino Act, the issuance by the European Commission of a decision under Council Regulation No. 4064/89 of the European Community declaring the~~ Merger ~~compatible with the common market and the approval of the Merger~~ by the antitrust regulators in ~~other~~certain specified jurisdictions. Although we and Schlumberger have agreed in the Merger Agreement to use our reasonable best efforts to obtain the requisite governmental approvals, there can be no assurance that these approvals will be obtained. In addition, the governmental authorities from which these approvals are required may impose conditions on the completion of the Merger or require changes to the terms of the Merger. Under the terms of the Merger Agreement, Schlumberger is required to agree to take ~~all~~ all actions demanded by an antitrust regulator in order to resolve any objections to the Merger (including divestitures, hold-separate restrictions or other restrictions) if doing so would not exceed a specified threshold, which is referred to as the detriment limit. The detriment limit would be exceed if the required divestitures of hold-separate restrictions affect assets other than (1) the W-H Energy Services business and corresponding Schlumberger operations and (2) other assets accounting for Schlumberger or Smith revenues of not more than $190 million in 2009, excluding from such calculation any W-H Energy Services operations and our Wilson business unit. If ~~Schlumberger~~ Schlumberger agrees to undertake divestitures or comply with operating restrictions in order to obtain any approvals required to complete the Merger, Schlumberger may be less able to realize ~~anticipated~~ anticipated benefits of the Merger, and the business and results of operations of the combined company after the Merger may be adversely affected.


Item 2.	*Unregistered Sales of Equity Securities and Use of Proceeds*

The Company’s Board of Directors has approved a share repurchase program that allows for the purchase of up to 20 million shares of the Company’s common stock, subject to regulatory issues, market considerations and other relevant factors. During the ~~first~~second quarter of 2010, the Company did not repurchase any shares of common stock under the program. The number of shares that may be purchased under the program as of ~~March~~June 3130, 2010 is 15,158,913. Prior to January 1, 2010, the Company has repurchased 4.8 million shares at an average cost of $43.61 per share under the program. The acquired shares have been added to the Company’s treasury stock holdings. Certain participants in the long-term incentive plans surrender shares of common stock in order to satisfy tax-withholding obligations. These shares are not considered acquisitions under the Company’s share repurchase program. The share repurchase program has been suspended during the pendency of the Merger in order to comply with the restrictions imposed by the Merger Agreement.


Item 3.	*Defaults upon Senior Securities*

None.

Item 4. Removed and Reserved


Item 5.	*Other Information*

~~None~~ The 2010 Annual Meeting of Stockholders (the “2010 Annual Meeting”) of the Company has been scheduled for August 24, 2010.

34 As previously announced, pursuant to Rule 14a-5(f) and Rule 14a-8(e)(2) under the Exchange Act, the deadline for receipt of stockholder proposals for inclusion in the Company’s proxy statement and form of proxy for the 2010 Annual Meeting in accordance with Rule 14a-8 under the Exchange Act was set at July 19, 2010. In order for a proposal to be considered timely, it must have been received in writing by the Company on or prior to the applicable date at the Company’s principal executive offices, located at 1310 Rankin Road, Houston, Texas 77073, Attn: Secretary and General Counsel. In addition, in accordance with the advance notice requirements set forth in the Company’s Amended and Restated Bylaws (the “Bylaws”), in order for a stockholder proposal made outside of Rule 14a-8 to be considered timely within the meaning of the Bylaws and Rule 14a-4(c) under the Exchange Act, such proposal must have been received by the Company at the address set forth above on or before July 26, 2010.


Item 6.	*Exhibits*

Exhibits designated with an “*” are filed, and with an “**” are furnished, as an exhibit to this Quarterly Report on Form 10-Q. Exhibits designated with a “+” are identified as management contracts or compensatory plans or arrangements. Exhibits previously filed as indicated below are incorporated by reference.

2.1	–—	Agreement and Plan of Merger, dated as of February 21, 2010, by and among Schlumberger Limited (Schlumberger N.V.), Turnberry Merger Sub Inc., and Smith International, Inc. Filed as Exhibit 2.1 to the Company’s report on Form 8-K filed on February 22, 2010 and incorporated herein by reference.
4.1	–—	Amendment No. 34, dated as of ~~February~~June 218, 2010, to the Rights Agreement, dated as of June 8, 2000, between Smith International, Inc. and Computershare Trust Company, N.A. as rights agent. Filed as Exhibit 4.1 to the Company’s report on Form 8-K filed on ~~February~~June 229, 2010 and incorporated herein by reference.
31.1*	–—	Certification of Chief Executive Officer pursuant to Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2*	–—	Certification of Chief Financial Officer pursuant to Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1**	–—	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101**	—	The following materials from Smith International, Inc.’s Quarterly Report on Form 10-Q for the quarter ended ~~March~~June 3130, 2010, formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Condensed Statements of Operations, (ii) Consolidated Condensed Balance Sheets, (iii) Consolidated Condensed Statement of Cash Flows, (iv) Consolidated Condensed Statements of Stockholders’ Equity and Comprehensive Income and (v) Notes to Consolidated Condensed Financial Statements, tagged as blocks of text.

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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: April 28, 2010	/s/ John Yearwood
	John Yearwood
	Chief Executive Officer, President and Chief Operating Officer
Date: April 28, 2010	/s/ William Restrepo
	William Restrepo
	Senior Vice President, Chief Financial Officer and Treasurer

SMITH INTERNATIONAL, INC.
Registrant

36/s/ John Yearwood

John Yearwood

Chief Executive Officer,

President and Chief Operating Officer

Date: August 6, 2010

/s/ William Restrepo

William Restrepo

Senior Vice President,

Chief Financial Officer and Treasurer

Date: August 6, 2010

EXHIBIT INDEX

2.1	–—	Agreement and Plan of Merger, dated as of February 21, 2010, by and among Schlumberger Limited (Schlumberger N.V.), Turnberry Merger Sub Inc., and Smith International, Inc. Filed as Exhibit 2.1 to the Company’s report on Form 8-K filed on February 22, 2010 and incorporated herein by reference.
4.1	–—	Amendment No. 34, dated as of ~~February~~June 218, 2010, to the Rights Agreement, dated as of June 8, 2000, between Smith International, Inc. and Computershare Trust Company, N.A. as rights agent. Filed as Exhibit 4.1 to the Company’s report on Form 8-K filed on ~~February~~June 229, 2010 and incorporated herein by reference.
31.1*	–—	Certification of Chief Executive Officer pursuant to Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2*	–—	Certification of Chief Financial Officer pursuant to Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1**	–—	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101**	—	The following materials from Smith International, Inc.’s Quarterly Report on Form 10-Q for the quarter ended ~~March~~June 3130, 2010, formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Condensed Statements of Operations, (ii) Consolidated Condensed Balance Sheets, (iii) Consolidated Condensed Statement of Cash Flows, (iv) Consolidated Condensed Statements of Stockholders’ Equity and Comprehensive Income and (v) Notes to Consolidated Condensed Financial Statements, tagged as blocks of text.

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