Baker Hughes 2013 Annual Report Download - page 71

Baker Hughes Incorporated41
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effect when taxes are actually paid or recovered. Valuation allowances are established to reduce deferred tax
assets when it is more likely than not that some portion or all of the deferred tax assets will not be realized. In
determining the need for valuation allowances, we have considered and made judgments and estimates regarding
estimated future taxable income and ongoing prudent and feasible tax planning strategies. These estimates and
judgments include some degree of uncertainty and changes in these estimates and assumptions could require us to
adjust the valuation allowances for our deferred tax assets. Historically, changes to valuation allowances have been
caused by major changes in the business cycle in certain countries and changes in local country law. The ultimate
realization of the deferred tax assets depends on the generation of sufficient taxable income in the applicable taxing
jurisdictions.
We operate in more than 80 countries under many legal forms. As a result, we are subject to the jurisdiction of
numerous domestic and foreign tax authorities, as well as to tax agreements and treaties among these
governments. Our operations in these different jurisdictions are taxed on various bases: actual income before
taxes, deemed profits (which are generally determined using a percentage of revenue rather than profits) and
withholding taxes based on revenue. Determination of taxable income in any jurisdiction requires the interpretation
of the related tax laws and regulations and the use of estimates and assumptions regarding significant future events
such as the amount, timing and character of deductions, permissible revenue recognition methods under the tax law
and the sources and character of income and tax credits. Changes in tax laws, regulations, agreements and
treaties, foreign currency exchange restrictions or our level of operations or profitability in each taxing jurisdiction
could have an impact on the amount of income taxes that we provide during any given year.
Our tax filings for various periods are subject to audit by the tax authorities in most jurisdictions where we
conduct business. These audits may result in assessments of additional taxes that are resolved with the authorities
or through the courts. We believe these assessments may occasionally be based on erroneous and even arbitrary
interpretations of local tax law. Resolution of these situations inevitably includes some degree of uncertainty;
accordingly, we provide taxes only for the amounts we believe will ultimately result from these proceedings. The
resulting change to our tax liability, if any, is dependent on numerous factors including, among others, the amount
and nature of additional taxes potentially asserted by local tax authorities; the willingness of local tax authorities to
negotiate a fair settlement through an administrative process; the impartiality of the local courts; the number of
countries in which we do business; and the potential for changes in the tax paid to one country to either produce, or
fail to produce, an offsetting tax change in other countries. Our experience has been that the estimates and
assumptions we have used to provide for future tax assessments have proven to be appropriate. However, past
experience is only a guide, and the potential exists that the tax resulting from the resolution of current and potential
future tax controversies may differ materially from the amount accrued.
In addition to the aforementioned assessments that have been received from various tax authorities, we also
provide for taxes for uncertain tax positions where formal assessments have not been received. The determination
of these liabilities requires the use of estimates and assumptions regarding future events. Once established, we
adjust these amounts only when more information is available or when a future event occurs necessitating a change
to the reserves such as changes in the facts or law, judicial decisions regarding the application of existing law or a
favorable audit outcome. We believe that the resolution of tax matters will not have a material effect on the
consolidated financial condition of the Company, although a resolution could have a material impact on our
consolidated statements of income for a particular period and on our effective tax rate for any period in which such
resolution occurs.
Pensions and Postretirement Benefit Obligations
Pensions and postretirement benefit obligations and the related expenses are calculated using actuarial models
and methods. This involves the use of two critical assumptions, the discount rate and the expected rate of return on
assets, both of which are important elements in determining pension expense and in measuring plan liabilities. We
evaluate these critical assumptions at least annually, and as necessary, we utilize third party actuarial firms to assist
us. Although considered less critical, other assumptions used in determining benefit obligations and related
expenses, such as demographic factors like retirement age, mortality and turnover, are also evaluated periodically
and are updated to reflect our actual and expected experience.
The discount rate enables us to determine expected future cash flows at a present value on the measurement
date. The development of the discount rate for our largest plans was based on a bond matching model whereby the