| W-H ENERGY SERVICES INC Item 1A Risk Factors |
| Set forth below is a discussion of some of the risks that we face and that could affect our business and financial position for 2006 and beyond |
| There may be additional risks that we do not presently know of or that we currently believe are immaterial which could also impair our business and financial position |
| Risks Related to Our Business Demand for our products and services depends on oil and natural gas industry activity and expenditure levels that are directly affected by trends in oil and natural gas prices |
| Demand for our drilling related products and services is substantially dependent on the level of exploration, development and production activity of, and the corresponding capital spending by, oil and natural gas companies |
| Oil and natural gas companies typically reduce exploration and development activity during periods of low or volatile oil and natural gas prices |
| The markets for oil and natural gas historically have been volatile and are likely to continue to be so in the future |
| Prices for oil and natural gas are subject to large fluctuations in response to relatively minor changes in the supply of and demand for oil and natural gas, market uncertainty and a variety of other factors that are beyond our control |
| Any prolonged reduction in oil and natural gas prices will depress the level of exploration, development and production activity by our customers which will result in a decrease in the demand for our drilling related products and services and could have a material adverse effect on our financial condition or results of operations |
| Factors affecting the prices of oil and natural gas include: • the level of demand for oil and natural gas; • worldwide political, military and economic conditions, including the ability of the Organization of Petroleum Exporting Countries to set and maintain production levels and prices for oil and potential political or economic uncertainties resulting from the threat or occurrence of terrorist attacks; • oil and natural gas production/inventory levels; • the policies of governments regarding the exploration for and production and development of their oil and natural gas reserves; • global weather conditions; • interest rates and cost of capital; and • tax policies |
| The production sector of the oil and natural gas industry, which utilizes our completion and workover related products and services, is less immediately affected by changing oil and natural gas prices and, thus, tends to be less volatile than the exploration sector, which utilizes our drilling related products and services |
| However, producers likely would react to declining oil and natural gas prices by reducing expenditures, which could also adversely affect our completion and workover related products and services segment |
| 12 _________________________________________________________________ [71]Table of Contents Because many of our products and services are used in potentially hazardous applications and operations, our business is subject to risks associated with events that result in personal injuries, loss of life, damage to or destruction of property, equipment or the environment and suspension of operations |
| Many of our products and services are used in potentially hazardous drilling, completion and production applications |
| These activities are dangerous and accidents can result in: • personal injury; • loss of life; • damage to or destruction of property, equipment and the environment; and • suspension of operations |
| Litigation arising from a catastrophic occurrence at a location where our equipment or services are used may result, in the future, in our being named as a defendant in lawsuits asserting potentially large claims |
| In addition, many of our employees who perform services on offshore platforms and vessels are covered by provisions of the Jones Act, the Death on the High Seas Act and general maritime law |
| These laws have the effect of making the liability limits established by state workers’ compensation laws inapplicable to these employees and, instead, permit them or their representatives to pursue actions against us for damages from job-related injuries, with generally no limitations on our potential liability |
| The frequency and severity of these incidents affect our operating costs, insurability and relationships with customers, employees and regulators |
| Any increase in the frequency or severity of these incidents, or the general level of compensation awards resulting from these incidents, could affect our ability to obtain projects from oil and natural gas companies or insurance covering these incidents |
| Unavailability of or costs associated with insurance could affect us adversely |
| We maintain insurance policies providing coverage for risks that we believe are consistent with industry standards and that meet the requirements of our customers |
| However, our insurance may not be sufficient to cover any particular loss, and it does not provide coverage for all liabilities |
| In addition, many of our insurance policies contain deductibles for which we are responsible |
| Insurance premiums for our industry have been subject to increases and large fluctuations during the last five years |
| As a result, the amount we are required to spend each year on insurance has increased, in some cases, substantially, and we expect that these increases will continue |
| We have sought to minimize these premium increases through increasing the size of our deductibles |
| Continuing increases in the costs of insurance could adversely affect our financial condition and results of operations |
| We may not be able to maintain adequate insurance at rates we consider commercially reasonable |
| The occurrence of an event not fully covered by insurance could have a material adverse effect on our financial condition or results of operations |
| We may encounter difficulty in continuing to develop, produce and commercialize technologically advanced products and services |
| Our customers continually demand new and improved products and services that increase the precision of and reduce the uncertainty associated with the exploration for and development of oil and natural gas |
| Many of our competitors are much larger and have greater research and development, financial and other resources than we do |
| If we are not able to develop commercially competitive products and services that we can offer at competitive prices in a timely manner, our financial condition and results of operations may be adversely affected |
| New product development is a lengthy and costly process and depends upon our ability to: • foresee the needs of our customers and the new technologies likely to be introduced by our competitors; 13 _________________________________________________________________ [72]Table of Contents • successfully design, test, manufacture, market and commercialize our own competing technologies; and • obtain and maintain exclusive technology positions through patent and trade secret protection |
| We may encounter resource constraints or technical or other difficulties that could delay the introduction of new products and services in the future |
| In addition, our competitors may introduce new products before we are able to, thereby possibly achieving a commercial advantage over us |
| If we are unable to develop, produce and commercialize new products and services that we can offer to our customers at a competitive price, our financial position and results of operations could be adversely affected |
| Our business could be adversely affected by disputes regarding intellectual property or our inability to obtain protection for technologies we develop |
| Many of our operations, especially those dependent on our logging-while-drilling and measurement-while-drilling products and services and specialty chemical sales, rely substantially on proprietary rights in technologies for which we hold licenses or patents |
| In addition, we are pursuing patent and trademark protection for our newly developed technologies and brands |
| The market success of our technologies will depend, in part, on our ability to obtain and enforce our proprietary rights in these technologies, to preserve rights in our trade secret and non-public information, and to operate without infringing the proprietary rights of others |
| We rely on a combination of patent, trademark and trade secret laws and restrictions on disclosure of our proprietary information to protect our intellectual property rights |
| We also seek to obtain confidentiality agreements from our employees, consultants and business partners and control access to and distribution of our documentation and other forms of our proprietary information |
| It is possible that these measures may not: • Prevent the challenge, invalidation, narrowing or circumvention of our existing patents; • Prevent our competitors from independently developing similar products or services, duplicating our products or services, or designing around the patents owned by us; • Prevent third-parties from enforcing patents against us that eventually limit our ability to do business in some areas of the market; • Provide adequate protection for our intellectual property rights and technologies; • Prevent disclosure of our trade secrets and know-how to third parties or the public; or • Result in intellectual property rights adequate to protect our business from competition from foreign sources |
| If any of our patents or other intellectual property rights are determined to be invalid or unenforceable, or if a court limits the scope of claims in a patent or fails to recognize our trade secret rights, our competitive advantages could be significantly reduced in the relevant technology, allowing competition for our customer base to increase |
| The resulting loss in revenues could adversely affect our operational results |
| In addition, unauthorized parties may attempt to obtain or use our proprietary technologies |
| Monitoring unauthorized use of our technology may be difficult and we cannot be certain that the steps that we have taken will prevent unauthorized use of our technology particularly in foreign countries or markets where the laws may not protect our proprietary rights as fully as in the United States |
| Numerous patents have been issued to oilfield service companies covering a wide variety of products and services |
| Although we endeavor to avoid infringing the proprietary rights of others in bringing new technologies and brands to market, there can be no assurance that third parties will not make claims of infringement |
| Intellectual property litigation is inherently expensive, whether enforcing our own proprietary rights or defending against the infringement claims of others |
| If a commercially significant intellectual property dispute arises, we could incur substantial litigation costs or be subject to claims for damages or injunctive relief, the impact of which upon our business could be substantial |
| 14 _________________________________________________________________ [73]Table of Contents Intense competition in our industry could adversely affect our results of operations |
| We operate in highly competitive areas of the oilfield products and services markets |
| The volatility of oil and natural gas prices has led to a consolidation of a number of companies providing products and services similar to those we provide |
| As a result of these consolidations, many of our competitors are much larger and have greater research and development, marketing, distribution, financial and other resources than we do |
| If these or other of our competitors or new market entrants introduce new products or services with better features, performance, prices or other characteristics than our products and services, our financial condition or results of operations may be adversely affected |
| In addition, the intense competition in our industry could result in significant price competition that could have a material adverse effect on our results of operations and financial condition |
| Finally, competition among oilfield service and equipment providers is partly based on the provider’s reputation for safety and quality |
| Although we believe that our reputation for safety and quality service is good, there can be no assurance that we will be able to maintain this reputation and, thus our competitive position |
| The volatility of the oil and natural gas industry may affect our ability to attract and retain the skilled workers on which our operations depend |
| We may not be able to find enough skilled workers to meet our needs, which could limit our growth |
| Business activity in the oil and natural gas industry historically decreases or increases with the price of oil and natural gas |
| Even though the prices of oil and natural gas have recovered, industry-wide downsizing, resulting from low oil and natural gas prices in the late 1990s and industry consolidation, caused oilfield workers to look for and secure work in other industries and locations |
| The oil and natural gas industry has not fully recovered from the earlier employment migration away from the oil and natural gas industry |
| If we are not able to increase our service rates to our customers to compensate for wage rate increases, our financial condition or results of operations may be adversely affected |
| Our success depends on attracting and retaining key employees |
| We depend on attracting and retaining the services of key employees, including executive officers and directors |
| We have employment agreements with certain key employees that contain non-compete provisions |
| Despite these agreements, we may not be able to retain these key employees and may not be able to enforce the non-compete provisions in their employment agreements |
| Increases in the prices of raw materials could affect our results of operations |
| Large amounts of steel are used in the manufacture of many of the products we use |
| Steel prices have increased significantly since the end of 2003, which has resulted in increased costs of these products for us and, in some cases, delays in our ability to obtain these products |
| In addition, we use raw materials in the production of our drilling fluid products |
| If we encounter difficulty in procuring or arranging for the transportation of these raw materials, and we are unable to pass corresponding cost increases on to our customers, our financial position and results of operations could be adversely affected |
| Adverse weather conditions could result in fluctuations in our operating results |
| Demand for our products and services in the Gulf of Mexico may be adversely affected by the hurricanes and other storms prevalent in the Gulf of Mexico and along the Gulf Coast during the summer and fall months |
| The threat of a hurricane or tropical storm in the vicinity of a drilling rig or production platform where we have personnel and equipment deployed often requires us to evacuate our personnel and equipment |
| An evacuation and the amount of time required to redeploy personnel and equipment after the threat of a storm has passed may result in significant downtime and lost revenues, especially in the case of a large storm |
| In addition, equipment that we are unable to remove from the path of a storm may be damaged, lost or destroyed |
| 15 _________________________________________________________________ [74]Table of Contents For example, during the third quarter of 2005, two major hurricanes affected the Gulf of Mexico, causing a suspension of oil and natural gas operations and significant damage to industry infrastructure |
| This continues to have a negative impact on our results of operations |
| In the North Sea, demand for our products and services is also affected by periods of adverse weather, although the storms experienced in the North Sea typically do not require the evacuation of personnel and equipment |
| As a result, our operating results may vary from quarter to quarter, depending upon factors outside of our control and full year results are not likely to be a direct multiple of any particular quarter or combination of quarters |
| Compliance with environmental and other government regulations could adversely affect our business |
| Our business is significantly affected by foreign, federal, state and local laws and regulations relating to: • the oil and natural gas industry; and • worker safety and environmental protection |
| We depend on the demand for our products and services from oil and natural gas companies, drilling contractors and other oilfield service companies |
| This demand is affected by a variety of factors, including taxes, price controls and the adoption or amendment of laws and regulations |
| For example, the adoption of laws and regulations curtailing the exploration and development of oil and natural gas in our areas of operation for economic, environmental or other policy reasons could adversely affect our operations by limiting demand for our products and services |
| The technical requirements of the foreign, federal, state and local laws and regulations affecting our businesses are becoming increasingly complex and stringent |
| For instance, some environmental laws may provide for “strict liability” for damages to natural resources or threats to public health and safety, rendering a party liable for environmental damage without regard to negligence or fault on the part of the party |
| Sanctions for noncompliance with these laws and regulations may include: • revocation of permits; • issuance of corrective action orders; • assessment of administrative, civil or criminal penalties; and • issuance of injunctions restricting or prohibiting our operations |
| Some environmental laws provide for joint and several strict liability for remediation of spills and releases of hazardous substances |
| In addition, we may be subject to claims alleging personal injury or property damage as a result of alleged exposure to hazardous substances, as well as damage to natural resources |
| These laws and regulations also may expose us to liability for the conduct of, or conditions caused by, others, or for our acts that were in compliance with applicable laws at the time the acts were performed |
| The concentration of our customers in the energy industry could materially and adversely affect our earnings |
| Substantially all of our customers are in the energy industry |
| This concentration of customers may impact our overall exposure to credit risk, either positively or negatively, in that customers may be similarly affected by changes in economic and industry conditions |
| Many of our customers slow the payment of their accounts when industry conditions decline |
| We perform ongoing credit evaluations of our customers, but do not generally require collateral in support of our trade receivables |
| 16 _________________________________________________________________ [75]Table of Contents A significant amount of our growth has occurred through the acquisition of existing businesses; however, future acquisitions may be difficult to integrate, may disrupt our existing businesses and may adversely affect our operating results |
| We may acquire other companies, assets and product lines that complement or expand our existing business |
| Each acquisition, however, involves a number of risks |
| These risks include: • the diversion of our management’s attention from our existing businesses to integrate the operations and personnel of the acquired business; • possible adverse effects on our operating results during the integration process; and • our possible inability to achieve the intended objectives of the combination |
| We may seek to finance an acquisition through borrowings under our credit facility or through the issuance of new debt or equity securities |
| If we should proceed with a relatively large cash acquisition, we could deplete a substantial portion of our financial resources to the possible detriment of our other operations |
| Any future acquisitions could also dilute the equity interests of our shareholders, require us to write off assets for accounting purposes or create other accounting issues |
| Our international operations may experience interruptions due to political and economic risks |
| We operate our business and market our products and services in oil and natural gas producing areas outside the United States |
| We are, therefore, subject to the risks common in international operations and investments in foreign countries |
| These risks include: • nationalization and expropriation; • acts of terrorism, war and civil disturbances; • restrictive actions by local governments; • limitations on repatriation of earnings; • changes in foreign tax laws; and • changes in currency exchange rates and currency devaluations |
| The occurrence of any of these events could have an adverse effect on regional demand for our products and services or our ability to provide our products and services in a particular region |
| An interruption of our international operations could have a material adverse effect on our results of operations and financial condition |
| Our credit facility contains restrictive covenants that limit our financial and operational flexibility and our ability to pay dividends |
| Our credit facility contains restrictive covenants that limit the incurrence of debt by our company, require us to maintain certain financial ratios, including a leverage ratio and an interest coverage ratio, and a specified net worth |
| Our credit facility also limits the amount of capital expenditures we may make, limits the amount of debt we may incur outside the credit facility, limits the amount of future investments we may make, restricts our ability to pay dividends and restricts our ability to engage in certain business combination transactions |
| These restrictions may adversely affect our ability to conduct and expand our operations |
| For example, our business is capital intensive and requires specialized equipment |
| We may need to raise additional funds through public or private debt or equity financing to acquire new or additional equipment or for other purposes |
| Adequate funds may not be available when needed or may not be available on favorable terms |
| Even if adequate funds are available, our credit facility may restrict our ability to raise additional funds |
| If we are unable to raise capital, our financial condition and results of operations may be adversely affected |
| 17 _________________________________________________________________ [76]Table of Contents As a holding company, we are dependent on dividends from our operating subsidiaries to pay our obligations |
| We are a holding company with no business operations |
| Our only significant asset is the outstanding capital stock of our subsidiaries |
| As a result, we must rely on dividends from our subsidiaries to provide funding to meet our debt obligations and operating expenses |
| Before they can dividend funds to us, our subsidiaries must meet their own debt obligations, including payment of their trade payables |
| We currently intend to retain our earnings and cash flow for growth and general corporate expenditures and not to pay any dividends |
| Even if we decided to pay a dividend on or make a distribution in respect of our common stock, our subsidiaries may not be able to generate sufficient cash flow to pay a dividend or distribute funds to us |
| At present, we are restricted from paying dividends under our credit facility |
| Future credit facilities and other future debt obligations, as well as statutory provisions, may also limit our ability to pay dividends |
| Risks Related to the Market for Our Common Stock The availability of shares of our common stock for future sale could depress our stock price |
| Sales of a substantial number of shares of our common stock in the public market, or the perception that such sales might occur, could have a material adverse effect on the price of our common stock |
| We have registered the sale of 5cmam800cmam075 shares of our common stock which have been and may in the future be issued upon the exercise of options granted under our option plans |
| All of the shares issued upon exercise of these options will be freely tradable without restrictions or registration under the Securities Act of 1933, by persons other than our affiliates |
| Our affiliates would be able to sell these shares under Rule 144 after compliance with any lock-up agreement to which they are subject |
| Our stock price could be extremely volatile as a result of the effect that variations in oil and natural gas prices and other factors beyond our control could have on the market price of our stock |
| The market price of our common stock may be influenced by many factors, including: • variations in our quarterly or annual results of operations; • variations in oil and natural gas prices and production/ inventory levels; • drilling activity levels worldwide; • investor perceptions of us and other oilfield service companies, in general; • general economic conditions and industry competition; and • the liquidity of the market for our common stock |
| These factors may cause the price of our common stock to fluctuate significantly |
| In particular, the market price of our common stock may be influenced by variations in oil and natural gas prices because demand for our products and services is closely related to the prices of these commodities |
| This may cause our stock price to fluctuate with these underlying commodity prices, which are highly volatile |