FORM 10-Q

Commission file number 000-31579

HYDRIL COMPANY

Registrant’s telephone number, including area code (281) 449-2000

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes [X] No [  ]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No [  ]

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Shares outstanding at November 3, 2004: Common stock, $.50 par value, 18,003,986 shares outstanding Class B common stock, $.50 par value, 5,165,080 shares outstanding

HYDRIL COMPANY

INDEX

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Cautionary Statement Regarding Forward-Looking Information

     This Quarterly Report on Form 10-Q contains forward-looking statements. These statements relate to future events or our future financial performance, including our business strategy and product development plans, and involve known and unknown risks and uncertainties. These risks and uncertainties and assumptions, which are more fully described under “RISK FACTORS” in Item 2 of this report and in Hydril Company’s Annual Report on Form 10-K for the year ended December 31, 2003 filed with the Securities and Exchange Commission, include, but are not limited to, the impact of changes in oil and natural gas prices and worldwide and domestic economic conditions on drilling activity and demand for and pricing of Hydril’s products, the impact of geo-political and other events affecting international markets and trade, Hydril’s ability to remain on the leading edge of technology in its products and maintain and increase its market share, the impact of international and domestic trade laws, the loss of or change to distribution methods of premium connections in the U.S. and Canada, overcapacity in the pressure control industry, and high fixed costs that could affect the pricing of Hydril’s products. These factors may cause our company’s or our industry’s actual results, levels of activity, performance or achievements to be materially different from those expressed or implied by the forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “expects,” “intends,” “plans,” “anticipated,” “believes,” “estimated,” “potential,” or the negative of these terms or other comparable terminology.

     These statements are only projections, based on anticipated industry activity. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.

HYDRIL COMPANY

See notes to unaudited consolidated financial statements

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HYDRIL COMPANY
Part I, Item 1: Consolidated Balance Sheets
(In Thousands, Except Share and Per Share Information)

See notes to unaudited consolidated financial statements

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HYDRIL COMPANY

See notes to unaudited consolidated financial statements

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HYDRIL COMPANY

See notes to unaudited consolidated financial statements

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Hydril Company

Part I, Item 1: Notes to Unaudited Consolidated Financial Statements

Note 1 — BASIS OF PRESENTATION

     Principles of Consolidation- The consolidated financial statements include the accounts of Hydril Company and its wholly owned subsidiaries. Intercompany accounts and transactions are eliminated in consolidation.

     Use of Estimates- The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

     Reclassifications- Certain prior year amounts within the consolidated financial statements have been reclassified to conform to the current year’s presentation.

     Interim Presentation- The accompanying consolidated interim financial statements and disclosures have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America and in the opinion of management reflect all adjustments (consisting solely of normal recurring adjustments) necessary for a fair presentation in all material respects of the financial position and results for the interim periods. The 2003 consolidated balance sheet was derived from our audited financial statements. These financial statements should be read in conjunction with the audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003. The results of operations for the three and nine months ended September 30, 2004 are not necessarily indicative of results to be expected for the full year.

     Stock Based Compensation – The Company accounts for stock-based compensation using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees.” Accordingly, no compensation expense has been recognized for the Company’s stock option plans. In December 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) 148 “Accounting for Stock-Based Compensation-Transition and Disclosure.” The statement requires pro forma disclosures that reflect the difference in stock-based employee compensation cost, if any, included in net income and the total cost measured by the fair value based method per SFAS 123 “Accounting for Stock-Based Compensation”, if any, that would have been recognized in the income statement if the fair value based method had been applied to all awards.

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     The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS 123 for the three and nine months ended September 30, 2004 and 2003:

Note 2 — Product Warranty Liability

     The change in the aggregate product warranty liability is as follows for the three and nine months ended September 30:

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Note 3 — LONG-TERM CONTRACTS

     The components of long-term contracts as of September 30, 2004 and December 31, 2003 consist of the following:

Note 4 — CONTINGENCIES

     The Company is involved in legal proceedings arising in the ordinary course of business. In the opinion of management these matters are such that their outcome will not have a material adverse effect on the financial position or results of operations of the Company.

     The Company has been identified as a potentially responsible party at a waste disposal site near Houston, Texas. Based on the number of other potentially responsible parties, the total estimated site cleanup costs and its estimated share of such costs, the Company continues to believe this matter will not materially affect its results of operation or financial condition.

Note 5 —LINES OF CREDIT

     At September 30, 2004, the Company had $20,000,000 in total committed unsecured revolving lines of credit, which extend through June 30, 2005. Of this, $15,000,000 relates to the Company’s U.S. operations and $5,000,000 relates to the Company’s foreign operations. Under both the domestic and foreign lines, the Company may, at its election, borrow at either a prime or LIBOR based interest rate. Interest rates fluctuate depending on the Company’s leverage ratio and are prime minus a spread ranging from 60 to 115 basis points or LIBOR plus a spread ranging from 85 to 140 basis points. At September 30, 2004, there were no outstanding borrowings under either facility. Our U.S. revolving credit agreement contains covenants with respect to debt levels, tangible net worth and debt-to-capitalization

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ratios. The Company was in compliance with these covenants at September 30, 2004. The foreign line does not contain any separate financial covenants but contains cross-default provisions which would be triggered by a default under the U.S. line of credit.

     The terms of the Company’s credit facilities allow for the issuance of letters of credit. The amount of outstanding letters of credit reduces the amount available for borrowing under the credit facilities. The letters of credit are generally short in duration and immaterial in amount. At September 30, 2004 there was approximately $800,000 outstanding in letters of credit.

Note 6 — EARNINGS PER SHARE

     The Company has presented basic and diluted income per share (“EPS”) on the consolidated statement of operations. Basic EPS excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the period. Dilutive EPS is based on the weighted average number of shares outstanding during each period plus the assumed exercise of dilutive stock options and vesting of restricted stock and restricted stock units, less the number of treasury shares from the assumed exercise proceeds using the average market price for the Company’s common stock for each of the periods presented. When potentially dilutive securities are anti-dilutive, they are not included in dilutive EPS. Basic weighted average shares outstanding for the three months ended September 30, 2004 and 2003 were 23,030,468 and 22,765,373, respectively, while for the nine months ended September 30, 2004 and 2003 were 22,930,889 and 22,680,760, respectively. Dilutive weighted average shares outstanding for the three months ended September 30, 2004 and 2003 were 23,553,551 and 23,043,844, respectively, while for the nine months ended September 30, 2004 and 2003 were 23,304,555 and 22,985,192, respectively.

     The following table summarizes the computation of basic and diluted net income per share:

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Note 7 — EMPLOYEE BENEFITS

     The Company has a defined benefit plan and post-retirement health and life benefits which are described in detail in Note 6 “EMPLOYEE BENEFITS” under Item 8 of our Annual Report on Form 10-K for the year-ended December 31, 2003 filed with the Securities and Exchange Commission. The table below shows the amount of estimated net periodic benefit costs under each plan for the three and nine months ended September 30:

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Note 8 – IMPAIRMENT OF LONG-LIVED ASSETS

     In the third quarter of 2004, the Company tested for recoverability the carrying value of its assets included in the Advanced Composite product line, after concluding that it is more likely than not that these assets would be sold or disposed of significantly before the end of their estimated useful lives. Advanced Composite is a product line included within the Company’s Premium Connection segment. An impairment charge of $727,000 pretax was recorded as a component of cost of sales in the third quarter of 2004 as a result of this recoverability test and the net book value of these assets after such charge was approximately $0.9 million (substantially all related to fixed assets).

Note 9 — SEGMENT AND RELATED INFORMATION

     In accordance with SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information,” the Company has identified the following reportable segments: Premium Connection and Pressure Control.

     The Company’s premium connection segment manufactures premium connections that are used in drilling environments where extreme pressure, temperature, corrosion and mechanical stress are encountered, as well as in environmentally sensitive drilling. These harsh drilling conditions are typical for deepwater, deep-formation and horizontal or highly deviated wells. Hydril applies premium threaded connections to tubulars owned by its customers and purchases pipe in certain international markets for threading and resale. Hydril manufactures premium threaded connections and provides services at facilities located in Houston, Texas; Westwego, Louisiana; Bakersfield, California; Nisku, Alberta, and Dartmouth, Nova Scotia, Canada; Aberdeen, Scotland; Veracruz, Mexico; Batam, Indonesia; and Warri, Nigeria.

     The Company’s pressure control segment manufactures a broad range of pressure control equipment used in oil and gas drilling and well completion typically employed in

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harsh environments. The Company’s pressure control products are primarily safety devices that control and contain fluid and gas pressure during drilling, completion and maintenance in oil and gas wells. The Company also provides aftermarket replacement parts, repair and field services for its installed base of pressure control equipment. Hydril manufactures pressure control products at two plant locations in Houston, Texas.

     The accounting policies of the segments are the same as those described in Note 1 “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” under Item 8 of our Annual Report on Form 10-K for the year-ended December 31, 2003 filed with the Securities and Exchange Commission. The Company evaluates segment performance based on operating income or loss.

     Financial data for the business segments for the three and nine months ended September 30, 2004 and 2003 is as follows:

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Part I, Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

     The following discussion of Hydril’s historical results of operations and financial condition should be read in conjunction with Hydril’s unaudited consolidated financial statements and notes thereto included elsewhere in this report and the audited consolidated financial statements and notes thereto included in Hydril’s Annual Report on Form 10-K for the year ended December 31, 2003.

OVERVIEW

     Hydril Company is engaged worldwide in engineering, manufacturing and marketing premium connection and pressure control products used for oil and gas drilling and production. Hydril applies premium threaded connections to tubulars owned by its customers and purchases pipe in certain international markets for threading and resale. Our premium connections are used in drilling environments where extreme pressure, temperature, corrosion and mechanical stress are encountered, as well as in environmentally sensitive drilling. These harsh drilling conditions are typical for deep-formation, deepwater and horizontal or highly deviated wells. Our pressure control products are primarily safety devices that control and contain fluid and gas pressure during drilling, completion and maintenance of oil and gas wells in these same environments. We also provide aftermarket replacement parts, repair and field services for our installed base of pressure control equipment. These products and services are required on a recurring basis because of the impact on original equipment from the extreme conditions in which pressure control products are used.

     Demand for our products and services is cyclical and substantially dependent on the activity levels in the oil and gas industry and our customers’ willingness to spend capital on the exploration and development of oil and gas reserves. The level of these capital expenditures is highly sensitive to current and expected oil and gas prices, which have historically been characterized by significant volatility. Generally, increasing commodity prices result in increased oil and gas exploration and production, which translates into greater demand for oilfield products and services. Conversely, falling commodity prices generally result in reduced demand for oilfield products and services. Historically, changes in budgets and activity levels by oil and gas exploration and production companies have lagged significant movements in commodity prices.

     Our premium connection products are marketed primarily to exploration and production company operators. The premium connection market is driven by the level of worldwide drilling activity, in particular by the number of rigs drilling to a target depth greater than 15,000 feet and rigs drilling in water depths greater than 1,500 feet. The majority of such wells have been drilled in North America. These depths require substantially more premium connections than shallower wells. Internationally, while the total international rig count is a general indicator of the premium connection market, there are many variables, including political and civil unrest, which may adversely impact the

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level of drilling activity in particular countries or regions. If we are affected by conditions that exist in only specific markets, our premium connections results may differ relative to movements in the international rig count.

     We sell our pressure control products primarily to drilling contractors for use in oil and gas drilling and to a lesser extent to exploration and production companies for oil and gas production. The main factors that affect sales of pressure control capital equipment products are the level of construction of new drilling rigs and the rate at which existing rigs are refurbished. Demand for our pressure control aftermarket replacement parts, repair and field services primarily depends upon the level of worldwide offshore drilling activity as well as the total U.S. rig count. The following tables illustrate the data for these sectors over the last five quarters:

(1)		Source: Average rig count calculated by Hydril using weekly data published by Smith International.
(2)		Source: Average rig count calculated by Hydril using month-end data provided by ODS-Petrodata Group.
(3)		Source: Average rig count calculated by Hydril using weekly data for the United States and Canada, and monthly data for the international regions, as published by Baker Hughes International. The worldwide offshore rig count includes data for Europe, the Middle East, Africa, Latin America, Asia Pacific, the United States and Canada, and therefore excludes the Former Soviet Union and China.

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(4)

Source: Average rig count calculated by Hydril using weekly data published by Baker Hughes Incorporated.

RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003

Revenue

     Total revenue increased $28.2 million, to $78.4 million for the three months ended September 30, 2004 compared to $50.2 million for the three months ended September 30, 2003. Our premium connection revenue increased $28.6 million, or 115%, to $53.4 million for the three months ended September 30, 2004 compared to $24.8 million for the prior year period. This increase was primarily the result of higher demand in certain international markets, primarily Latin America, which included some restocking orders to Venezuela, and in North America due to higher levels of deep formation drilling activity and operator mix within that sector. Pressure control revenue decreased $0.4 million, or 2%, to $25.0 million for the three months ended September 30, 2004 compared to $25.4 million for the same period in 2003. Pressure control capital equipment revenue decreased 17% primarily due to lower revenue from long-term projects consistent with the low level of new rig construction and refurbishment in the industry. Aftermarket pressure control revenue increased 10% and was $15.9 million for the three months ended September 30, 2004 compared to $14.4 million for the prior year period. The increase in aftermarket pressure control revenue was primarily due to higher repair and service activity in North America.

Gross Profit

     Gross profit increased $14.3 million to $33.1 million for the three months ended September 30, 2004 compared to $18.8 million for the prior year period. Gross profit for our premium connection segment increased 144% over the prior year quarter due primarily to higher demand for our products worldwide which led to higher plant utilization, and accordingly, lower manufacturing costs per unit. Pressure control gross profit increased 10% from the prior year period primarily due to higher gross margins from capital equipment including some long-term projects which were completed in the quarter.

Selling, General and Administrative Expenses

     Selling, general, and administrative expenses for the three months ended September 30, 2004 were $13.3 million compared to $12.6 million for the prior year quarter. Higher employee incentive accruals, resulting from the improved financial performance, and higher agent commissions, as a result of increased level of international sales in the third quarter of 2004, were partially offset by lower engineering expenses when compared to the prior year period. As a percentage of revenue, selling, general, and administrative expenses were 17% for the third quarter of 2004 compared to 25% for the prior year quarter.

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Operating Income

     Operating income increased $13.6 million to $19.8 million for the three months ended September 30, 2004 compared to $6.2 million for the same period in 2003. Operating income for our premium connection segment increased $12.9 million to $18.3 million for the third quarter of 2004 from $5.4 million for the third quarter of 2003. Operating income for our pressure control segment increased $0.9 million to $5.4 million for the quarter ended September 30, 2004 compared to $4.5 million for the same period in 2003. Corporate and administrative expenses were $3.9 million for the three months ended September 30, 2004 compared to $3.7 million for the prior year period due to higher administrative expenses and employee incentive accruals.

Provision (Benefit) for Income Taxes

     Income tax expense was $5.5 million for the three months ended September 30, 2004, compared to a net income tax benefit of $1.5 million for the three months ended September 30, 2003. The current year quarter includes a $1.3 million U.S. income tax benefit (extraterritorial income exclusion), related to export shipments for years 2002 and 2003. The prior year quarter includes a research and experimentation U.S. income tax credit of $3.7 million which covers qualified expenditures for the ten-year period from 1992 through 2001. Prior to 2003, Hydril was an alternative minimum tax payer and could not benefit from the research and experimentation tax credit.

RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003

Revenue

     Total revenue increased $36.7 million, to $198.8 million for the nine months ended September 30, 2004 compared to $162.1 million for the nine months ended September 30, 2003. Our premium connection revenue increased $42.1 million, or 50%, to $126.4 million for the nine months ended September 30, 2004 compared to $84.3 million for the prior year period. This increase was primarily the result of higher demand in certain international markets, primarily Latin America, which included some restocking orders to Venezuela, and in North America due to higher levels of deep formation drilling activity and operator mix within that sector. Pressure control revenue decreased $5.4 million, or 7%, to $72.4 million for the nine months ended September 30, 2004 compared to $77.8 million for the same period in 2003. Pressure control capital equipment revenue decreased 27% primarily due to lower revenue from long-term projects consistent with the low level of new rig construction and refurbishment in the industry. This decrease was partially offset by a 10% increase in pressure control aftermarket revenue, primarily repair and service activity, which was driven by an increase in worldwide drilling activity.

Gross Profit

     Gross profit increased $18.8 million to $81.5 million for the nine months ended September 30, 2004 compared to $62.7 million for the prior year period. Gross profit in our

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premium connection segment increased 65% due primarily to higher demand in both our international and domestic markets which led to higher plant utilization, and accordingly lower, manufacturing costs per unit. Pressure control gross profit decreased 6% from the prior year period due to a decline in capital equipment sales which was partially offset by an increase in higher-margin spare part sales.

Selling, General and Administrative Expenses

     Selling, general, and administrative expenses for the nine months ended September 30, 2004 were $37.9 million compared to $36.5 million for the prior year period. Higher employee incentive accruals, resulting from improved performance, and higher agent commissions as a result of the increased level of international sales in the first nine months of 2004, were partially offset by lower engineering expenses when compared to the prior year period. As a percentage of revenue, selling, general, and administrative expenses were 19% for nine months ended September, 30, 2004 compared to 23% for the prior year period.

Operating Income

     Operating income increased $17.4 million to $43.6 million for the nine months ended September 30, 2004 compared to $26.2 million for the same period in 2003. Operating income for our premium connection segment increased $19.5 million to $40.4 million for the first nine months of 2004 from $20.9 million for the same period in 2003. Operating income for our pressure control segment decreased $0.8 million to $14.7 million for the nine months ended September 30, 2004 compared to $15.5 million for the same period in 2003. Corporate and administrative expenses were $11.5 million for the nine months ended September 30, 2004 compared to $10.2 million for the prior year period due to higher administrative expenses and employee incentive accruals.

Interest Expense

     There was no interest expense for the nine months ended September 30, 2004 compared to $1.1 million for the prior year period. During the second quarter of 2003, our remaining debt of $30.0 million was repaid.

Provision (Benefit) for Income Taxes

     The provision for income taxes for the nine months ended September 30, 2004 was $12.8 million compared to $5.3 million for the same period in 2003. The nine months ended September 30, 2004 included a $1.3 million U.S. income tax benefit (extraterritorial income exclusion), related to export shipments and a $0.9 million research and experimentation U.S. tax credit, while the prior year period included a research and experimentation U.S. tax credit of $3.7 million. The extraterritorial income exclusion deduction recorded in 2004 is for years 2002 and 2003. The research and experimentation credit recorded in 2004 covers qualified spending for the two-year period from 2002 to 2003, while the credit recorded in 2003 covers qualified spending for the ten-year period from 1992 through 2001. Prior to 2003, the Company was an alternative minimum tax payer and accordingly could not benefit from the research and experimentation tax credit.

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LIQUIDITY AND CAPITAL RESOURCES

     Our primary liquidity needs are to fund capital expenditures, fund new product development and provide additional working capital. Capital expenditures are expected to be $10.0 to $12.0 million for 2004, of which $6.4 million had been incurred as of September 30, 2004. Our primary source of funds is cash flow from operations. In addition, we had cash, cash equivalents and investments of $99.6 million as of September 30, 2004, and also have the capacity to borrow up to $19.2 million under our committed revolving credit facilities. As of September 30, 2004, we had $0.8 million in outstanding letters of credit and no outstanding indebtedness.

     We believe that cash from operations and existing cash, cash equivalents and investment balances will be sufficient to meet anticipated cash requirements, including working capital needs, contractual obligations and planned capital expenditures, for at least the next 12 months. In the longer-term, if we were to need additional cash, we could borrow under our credit facilities and anticipate that we could also raise additional funds through issuing debt or equity securities.

Operating Activities

     For the nine months ended September 30, 2004, cash provided by operating activities was $39.0 million primarily due to earnings, contractual cash payments received on capital equipment projects and was partially offset by slightly higher working capital requirements. Cash provided by operating activities was $18.2 million for the nine months ended September 30, 2003 primarily due to earnings and contractual cash payments received from customers on long-term capital equipment projects, which was partially offset by higher working capital requirements and a $7.0 million contribution to the U.S. defined benefit pension plan.

Investing Activities

     Net cash used in investing activities was $15.4 million for the nine months ended September 30, 2004 compared to $8.3 million for the nine months ended September 30, 2003. Capital spending for the nine months ended September 30, 2004 of $6.4 million included $1.2 million for our pressure control segment and $4.9 million for our premium connection segment, in both cases primarily to support manufacturing operations, and $0.3 million for general corporate purposes. Capital spending for the nine months ended September 30, 2003 of $5.4 million included $2.0 million for our pressure control segment and $2.7 million for our premium connection segment, in both cases primarily to support manufacturing operations, and $0.7 million for general corporate purposes.

Credit Facilities

     We have two unsecured revolving lines of credit for working capital requirements that provide up to $20.0 million in total committed revolving credit borrowings through June 30, 2005. Of these, $15.0 million relates to our U.S. operations and $5.0 million relates to our foreign operations. Under these lines, we may borrow, at our election, at either a

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prime or LIBOR based interest rate. Interest rates fluctuate depending on our leverage ratio and are prime minus a spread ranging from 60 to 115 basis points or LIBOR plus a spread ranging from 85 to 140 basis points. At September 30, 2004, there were no outstanding borrowings under either facility. Our U.S. revolving credit agreement contains covenants with respect to debt levels, tangible net worth and debt-to-capitalization ratios. At September 30, 2004, we were in compliance with these covenants. Our foreign line of credit does not contain any separate financial covenants but contains cross-default provisions which would be triggered by a default under our U.S. line of credit.

     The terms of the Company’s credit facilities allow for the issuance of letters of credit. The amount of outstanding letters of credit reduces the amount available for borrowing under the credit facilities. The letters of credit are generally short in duration and immaterial in amount. At September 30, 2004 there was approximately $0.8 million outstanding in letters of credit.

Additional Contractual Cash Obligations

     We made disclosure of certain estimated obligations in the “Contractual Cash Obligations” table included in Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2003. In addition to those items, we estimate that we will make cash payments in the future for our long-term liabilities, which currently consist of post-retirement health and life benefits, pension plan benefits and deferred compensation. We estimate that those cash payments will be approximately $0.7 million, $1.6 million, $1.4 million and $11.5 million for each of the 2004, 2005-2006 and 2007-2008 periods and thereafter, respectively.

Backlog

     The pressure control capital equipment backlog was $15.9 million at September 30, 2004, $11.5 million at December 31, 2003 and $17.0 million at September 30, 2003. We recognize the revenue and gross profit from pressure control long-term projects using the percentage-of-completion accounting method. As revenue is recognized under the percentage-of-completion method, the order value in backlog is reduced. It is possible for orders to be cancelled; however, in the event of cancellations all costs incurred would be billable to the customer. Our backlog of premium connection and pressure control aftermarket parts and service is not a meaningful measure of business prospects due to the quick turnover of such orders.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

     Our accounting policies are described in Note 1 in the Notes to Consolidated Financial Statements in Item 8 of our Annual Report on Form 10-K for the year ended December 31, 2003. We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the United States, which require us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the year. Actual results could differ from

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those estimates. We consider the following policies and related estimates to be most critical in understanding the judgments that are involved in preparing our financial statements and the uncertainties that could impact our results of operations, financial condition and cash flows.

Revenue Recognition

     Revenue for most of our products and services is recognized at the time those products are delivered or services are performed. For the years ended December 31, 2003, 2002 and 2001 approximately 87%, 84% and 92%, respectively of our total revenues were recognized on this basis.

     A smaller portion of our revenue is generated from long-term contracts in our pressure control segment. These long-term contracts are generally contracts from six to eighteen months with a contract price in excess of $1.0 million. Revenue from long-term contracts was approximately 13%, 16% and 8% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively. Pressure control capital equipment backlog, which includes future long-term contract revenue, was $11.5 million, $32.5 million and $55.8 million for the years ended December 31, 2003, 2002 and 2001, respectively.

     Revenue and profit from long-term contracts are recognized as work progresses using the percentage-of-completion method in accordance with the American Institute of Certified Public Accountants Statement of Position 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.” Under this method, estimated contract income and resulting revenue is generally accrued based on costs incurred to date as a percentage of total estimated costs. This requires us to estimate the contract costs, which include all direct material, labor and subcontract costs and those indirect costs related to contract performance. Recognized revenues and profit are subject to revisions as the contract progresses to completion. Revisions in estimates are charged to income or expense in the period in which the facts and circumstances that give rise to the revision become known. If a long-term contract were anticipated to have an estimated loss, such loss would be recognized in the period in which the loss became apparent.

     For the years 2001 through 2003, our estimates of total costs and costs to complete have approximated actual costs incurred to complete contracts. However, there are many factors that impact future costs, including but not limited to the cost of labor and materials and other factors as outlined in our “Risk Factors.” Unexpected changes in these factors could affect the accuracy of our estimates and materially impact our future reported earnings.

Inventories

     Our inventories are stated at the lower of cost or market. Inventory costs include material, labor and production overhead. Cost is determined by the last in, first out (“LIFO”) method for substantially all pressure control products (approximately 84% and 85% of total gross inventories at December 31, 2003 and 2002, respectively) and by the first-in, first-out (“FIFO”) method for all other inventories. If the FIFO method had been used to

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value all inventories, the cost of inventory would have been $13.4 million, $13.3 million and $12.1 million higher at December 31, 2003, 2002 and 2001, respectively.

     The Company provides a reserve for the difference between the carrying value of excess or obsolete inventory items and their estimated net realizable value (market price). The reserve was $11.1 million, $7.7 million and $8.0 million at each of December 31, 2003, 2002 and 2001. Additions to the reserve were $4.0 million, $3.9 million and $3.8 million for the years ended December 31, 2003, 2002 and 2001, respectively. Our industry is cyclical in nature, which can cause some inventory items to be slow-moving and in excess between industry cycles. As a result, our provision for excess and obsolete inventory has tended to be higher for the 2001 through 2003 periods when our industry, and especially the pressure control capital equipment market, was weaker than in prior periods.

     In order to determine the appropriate reserve for excess and obsolete inventory, we perform a detailed review of inventory at least annually and review the reserve on a more generalized basis at least quarterly. Reserves for inventory obsolescence are determined based on our historical usage of inventory on-hand as well as our estimates regarding future market demand and other factors. We could be required to increase or decrease our reserve as a result of unexpected change in market demand for specific products or changes in customer purchasing decisions due to a shift in market activity. We could be required to increase our reserve as a result of new technology that renders certain products obsolete. Changes to the reserve are recorded as an expense and included in cost of sales. We believe that our reserves are adequate to cover anticipated losses under current conditions; however, significant or unanticipated changes to our estimates and forecasts, either adverse or positive, could impact the amount and timing of any additional provisions for excess or obsolete inventory that may be required. If an additional 1% of our gross inventories had been determined to be excess or obsolete inventory during 2003, our pre-tax income would have been reduced by approximately $0.6 million.

Product Warranties

     The Company sells most of its products to customers with a product warranty. This warranty provides that customers can return a defective product during a specified warranty period, generally one year, following the purchase. In such event, we would exchange the defective product for a replacement product, repair the defective product at no cost to the customer or issue a credit to the customer. The cost of product warranties is estimated and recorded as an accrued liability at the time of delivery of a product, or in some cases, when specific warranty claims are made. The estimates of exposure for product warranties are based on known warranty claims as well as current and historical warranty costs incurred. Additions to the reserve are recorded as an expense and included in cost of goods sold.

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     The reserve for product warranties was $2.2 million, $3.3 million and $3.2 million as of December 31, 2003, 2002 and 2001, respectively, and additions to the warranty reserve were $0.3 million, $0.7 million and $3.0 million for the respective years then ended. Actual warranty claims paid were $1.3 million, $0.7 million and $3.7 million for the years ended December 31, 2003, 2002 and 2001, respectively. We believe that our reserve for product warranties is sufficient based on our current estimates. However, because we manufacture complicated products that are subjected to harsh drilling environments, our experience with warranty claims may vary from period to period. Should actual product claims or repair costs be higher than the Company’s current estimates, increases in the estimated warranty liability could be required.

Pension Plan

     The Company has a frozen defined benefit pension plan covering substantially all of its U.S. employees. Benefits are based on the employees’ years of service and compensation. No additional benefits are being accrued under this plan, which was frozen effective December 31, 2001. At December 31, 2003, the Company had an estimated unfunded pension obligation under the plan of $0.9 million. Net periodic pension cost was $0.1 million, $0.2 million and $1.7 million for each of the years ended December 31, 2003, 2002 and 2001. The Company made contributions to the pension plan of $7.0 million and $1.7 million in 2003 and 2002, respectively. Based on current expectations, the Company does not plan to make any additional contribution during 2004.

     The Company’s pension costs and obligations recorded in the financial statements are determined on an actuarial basis. In order to estimate the pension obligation, management must make assumptions regarding the discount rate used to determine the present value of liabilities and the rate of return on pension assets. We use third-party specialists to assist management in evaluating our assumptions, which are reviewed annually. The assumed discount rate used in determining the benefit obligation was 6.0%, 6.5% and 6.75% at December 31, 2003, 2002 and 2001, respectively. Discount rates are based on the yield of high quality corporate bonds. Significant changes in the discount rate, such as those caused by changes to the yield curve, the mix of bonds available in the market, the maturity of selected bonds, and the timing of expected benefit payments may result in volatility. Plan assets consist primarily of investments in equities and fixed income funds. The expected long-term rate of return on pension plan assets at December 31, 2003, 2002 and 2001 was 6.0%, 8.0% and 9.0%, respectively. The expected long-term rate of return is based on anticipated future returns in each of the plan’s asset categories. Changes in any of the assumptions used, as well as differences between actual results and estimates, could impact our projected benefit obligation and benefit costs.

     The following table illustrates the sensitivity to a change in certain assumptions used in the calculation of pension expense for the year ending December 31, 2004 and the calculation of the projected benefit obligation (PBO) at December 31, 2003 for the Company’s pension plan:

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* Amount was negligible.

Post-Retirement Health and Life Benefits

     The Company provides certain medical, life insurance and/or dental benefits for eligible employees, hired before December 31, 1989, who have or will retire under one of the Company’s pension plans. At December 31, 2003, the Company had an estimated unfunded obligation for retiree life and health of approximately $8.9 million. The Company recognized post-retirement benefit income for the year ended December 31, 2003 of approximately $29,000 and had post-retirement benefit expense of $67,000 and $30,000 for the years ended December 31, 2002 and 2001, respectively. The Company made cash payments to pay for post-retirement health and life benefits of $0.7 million and $0.8 million for the years ended December 31, 2003 and 2002, respectively.

     The Company’s costs and obligations related to its post-retirement health and life benefits that are recorded in the financial statements are determined on an actuarial basis. In order to estimate the obligation, management must make many assumptions including the discount rate (discussed above under “Pension Plan”), healthcare cost trends and certain employee-related factors, such as turnover, retirement age and mortality. We use third-party specialists to assist management in evaluating our assumptions, which are reviewed annually. The assumed health care cost trend rates have a significant effect on the amounts reported for the post-retirement health and life plan. A 12% annual rate of increase in the per capita cost of both pre-age 65 and post-age 65 covered health care benefits was assumed for 2003 in determining the benefit obligation for the post-retirement health and life plan. This rate is assumed to decrease gradually to 5% for 2011 and remain at that level thereafter. The pre-age 65 rate was increased to 12% from the 10% rate used in prior periods. Changes in any of the assumptions used, as well as differences between actual results and estimates, could impact our projected obligation and costs as well as other calculations.

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     The following table illustrates the sensitivity to a change in certain assumptions used in the calculation of components of post-retirement health and life costs for the year ended December 31, 2004 and the calculation of benefit obligation at December 31, 2003 for the Company’s post-retirement health and life benefits:

* Amount was negligible.

RISK FACTORS

     You should consider carefully the following risk factors and all other information contained in this quarterly report on Form 10-Q and our Annual Report on Form 10-K for the year-ended December 31, 2003. Any of the following risks could impair our business, financial condition and operating results.

Risks Relating to Our Business

     A material or extended decline in expenditures by the oil and gas industry, due to a decline in oil and gas prices or other economic factors, would reduce our revenue.

     Demand for our products and services is substantially dependent on the level of capital expenditures by the oil and gas industry for the exploration for and development of crude oil and natural gas reserves. In particular, demand for our premium connections and our aftermarket pressure control products and services is driven by the level of worldwide drilling activity, especially drilling in harsh environments. A substantial or extended decline in drilling activity will adversely affect the demand for our products and services. Demand for our pressure control capital equipment is directly affected by the number of drilling rigs being built or refurbished. At this time, drilling rig utilization for many categories of rigs is below capacity. Therefore, in general, drilling contractors are not planning significant refurbishment of drilling rigs or new rig construction. As a result of these conditions, we do not expect to receive any significant new capital equipment orders for at least the next several months. An extended decline in capital equipment orders could adversely affect revenue and operating income for our pressure control segment and could result in additional charges if we are required to take cost reduction measures in light of business conditions.

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     Worldwide drilling activity is generally highly sensitive to oil and gas prices and can be dependent on the industry’s view of future oil and gas prices, which have been historically characterized by significant volatility. Oil and gas prices are affected by numerous factors, including:

•		the level of worldwide oil and gas exploration and production activity;
•		worldwide demand for energy, which is affected by worldwide economic conditions;
•		the policies of the Organization of Petroleum Exporting Countries, or OPEC;
•		significant decreases or increases in the production of oil or gas from countries due to war or civil unrest, such as in Iraq, Nigeria and Venezuela;
•		the cost of producing oil and gas;
•		interest rates and the cost of capital;
•		technological advances affecting hydrocarbon consumption, particularly oil and gas;
•		environmental regulation;
•		level of oil and gas inventories in storage;
•		tax policies;
•		policies of national governments; and
•		war, civil disturbances and political instability.

     We expect prices for oil and natural gas to continue to be volatile and affect the demand and pricing of our products and services. A material decline in oil or gas prices could materially adversely affect our business. In addition, recessions and other adverse economic conditions can also cause declines in spending levels by the oil and gas industry, and thereby decrease our revenue and materially adversely affect our business.

     We rely on a few distributors for sales of our premium connections in the United States and Canada; a loss of one or more of our distributors or a change in the method of distribution could adversely affect our ability to sell our products.

     There are a limited number of distributors who buy steel tubulars, contract with us to thread the tubulars and sell completed tubulars with our premium connections. In 2003, our eight distributors accounted for 59% of our premium connection sales in the United States and Canada.

     In the United States, tubular distributors have combined on a rapid basis in recent years resulting in fewer distribution alternatives for our products. In 1999, four distributors, one of which distributed our premium connections, combined to become one of the largest distributors of tubulars in the United States, and the combined company no longer distributes our products. Because of the limited number of distributors, we have few alternatives if we lose a distributor. Identifying and utilizing additional or replacement

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distributors may not be accomplished quickly and could involve significant additional costs. Even if we find replacement distributors, the terms of new distribution agreements may not be favorable to us. In addition, distributors may not be as well capitalized as our end-users and may present a higher credit risk.

     We cannot assure you that the current distribution system for premium connections will continue. For example, products may in the future be sold directly by tubular manufacturers to end-users or through other distribution channels such as the internet. If methods of distribution change, many of our competitors may be better positioned to take advantage of those changes than we are.

     The intense competition in our industry could result in reduced profitability and loss of market share for us.

     Contracts for our products and services are generally awarded on a competitive basis, and competition is intense. The most important factors considered by our customers in awarding contracts include:

•		availability and capabilities of the equipment;
•		ability to meet the customer’s delivery schedule;
•		price and indexes affecting price;
•		reputation;
•		experience;
•		safety record, and
•		technology.

     Many of our major competitors are diversified multinational companies that are larger and have substantially greater financial resources, larger operating staffs and greater budgets for marketing and research and development than we do. They may be better able to compete in making equipment available faster and more efficiently, meeting delivery schedules or reducing prices. In addition, two or more of our major competitors could consolidate producing an even larger company. Also our competitors may acquire product lines or consolidate with another company in the oilfield services and equipment industry, and as a result be able to offer a more complete package of drilling equipment and services rather than providing only individual components. For example, National Oilwell, a manufacturer and supplier of oilfield equipment, systems and services that has historically purchased Hydril pressure control equipment, recently entered into an agreement to merge with Varco International, a manufacturer of pressure control equipment and one of our primary competitors. As a result of any of the foregoing reasons, we could lose customers and market share to those competitors. These companies may also be better able than we are to successfully endure downturns in the oil and gas industry.

     We do not do business in as many countries as some of our larger multinational competitors and in some cases even where we do business, we do not have as significant a

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presence. Our lack of geographic diversity and penetration may have a material adverse affect on our results of operations and competitive position. Spending on exploration and production is typically spread unevenly between various regions with changes in geographic spending patterns arising as discoveries are made, the price of oil and gas changes, political changes take place or other factors occur that make drilling more or less attractive in a given geographic area. As a result, even when international rig counts and drilling activity increase overall, if the increased activity is not in countries in which we have a strong presence, we may not experience any increase in business and may lose market share.

     Moreover, some of our competitors with greater financial resources and multinational presence have relocated manufacturing operations to countries where they have substantially lower labor costs and lower general overhead costs. The relocation by competitors of manufacturing operations to low cost environments may continue in the future. As a result, our competitors may have lower costs than we do and be able to sell their products at prices significantly below ours.

     Our international operations may experience severe interruptions due to political, economic and other risks.

     In 2003, approximately 67% of our total revenue was derived from services or equipment ultimately provided or delivered to end-users outside the United States, and approximately 28% of our revenue was derived from products which were produced and used outside of the United States. We are, therefore, significantly exposed to the risks customarily attendant to international operations and investments in foreign countries. These risks include:

•		political instability, civil disturbances, war and terrorism;
•		nationalization, expropriation, and nullification of contracts;
•		changes in regulations and labor practices;
•		changes in currency exchange rates and potential devaluations;
•		changes in currency restrictions which could limit the repatriations of profits or capital;
•		restrictive actions by local governments;
•		seizure of plant and equipment; and
•		changes in foreign tax laws.

     An interruption of our international operations could reduce our earnings or adversely affect the value of our foreign assets. The occurrence of any of these risks could also have an adverse effect on demand for our products and services or our ability to provide them. We have manufacturing facilities in Warri, Nigeria and in Batam, Indonesia and a portion of our revenue is from sales to customers in these countries and surrounding areas. In addition, a portion of our revenue is from sales to customers in Venezuela. These

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countries in recent history have experienced civil disturbances and violence, which have disrupted oil and gas exploration and production operations located there as well as day-to-day operations and oversight of our business from time to time. These disruptions have affected our operations and resulted in lower demand for our premium connection products and services and, accordingly have had an adverse affect on our results of operations in recent periods and may continue to do so.

     The level and pricing of tubular goods imported into the United States and Canada could adversely affect demand for our products and our results of operations.

     The level of imports of tubular goods, which has varied significantly over time, affects the domestic tubular goods market. High levels of imports reduce the volume sold by domestic producers and tend to reduce their selling prices, both of which could have an adverse impact on our business. We believe that United States import levels are affected by, among other things:

•		United States and worldwide demand for tubular goods;
•		the trade practices of and government subsidies to foreign producers; and
•		the presence or absence of antidumping and countervailing duty orders.

     In many cases, foreign producers of tubular goods have been found to have sold their products, which may include premium connections, for export to the United States at prices that are lower than the cost of production or their prices in their home market or a major third-country market, a practice commonly referred to as “dumping.” If not constrained by antidumping duty orders and countervailing duty orders, which impose duties on imported tubulars to offset dumping and subsidies provided by foreign governments, this practice allows foreign producers to capture sales and market share from domestic producers. Duty orders normally reduce the level of imported goods and result in higher prices in the United States market. Duty orders may be modified or revoked as a result of administrative reviews conducted at the request of a foreign producer or other party.

     In addition, antidumping and countervailing duty orders may be revoked as a result of periodic “sunset reviews”. Under the sunset review procedure, an order must be revoked after five years unless the United States Department of Commerce and the International Trade Commission determine that dumping is likely to continue or recur and that material injury to the domestic injury is likely to continue or recur. Antidumping duty orders continue to cover imports of tubulars from Argentina, Italy, Japan, Korea and Mexico, and a countervailing duty order continues to cover imports from Italy. On July 17, 2001, the Department of Commerce ordered the continuation of the countervailing and antidumping duty orders on tubular goods other than drill pipe on Argentina, Italy, Korea and Mexico, and the continuation of the antidumping duty order on tubular goods, inclusive of drill pipe, from Japan. If the orders covering imports from these countries are revoked in full or in part or the duty rates lowered, we could be exposed to increased competition from imports that could reduce our sales and market share or force us to lower

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prices. Tubulars produced by domestic steel mills and threaded by us may not be able to economically compete with tubulars manufactured and threaded at steel mills outside the U.S. The Department of Commerce intends to initiate the next five-year review of these orders no later that June 2006. The sunset review for tubular products from Argentina, Italy, Japan, Korea and Mexico will take place in 2006, with a decision expected by April 2007.

     We may lose premium connection business to international and domestic competitors who produce their own pipe, as well as other new entrants.

     In the United States and Canada and sometimes internationally, our premium connections are added to steel tubulars purchased by a distributor from third-party steel suppliers. After our premium connections are added, the distributor sells the completed premium tubular to a customer at a price that includes, but does not differentiate between, the costs of the steel pipe and the connection. Pricing of premium connections can be affected by steel prices, as the steel pipe is the largest component of the overall price. We have no control over the price of the steel pipe that is supplied for our connections.

     During 2003, we derived approximately 67% of our revenue from services or equipment ultimately provided or delivered to end-users for use outside of the United States. Many of our larger competitors, especially internationally, are integrated steel producers, who produce, rather than purchase, steel. For example, several foreign steel mills have formed a corporation that is licensed to produce and sell a competing premium connections product line outside of the United States and Canada. Foreign integrated steel producers have more pricing flexibility for premium connections since they control the production of both the steel tubulars to which the connections are applied, as well as the premium connections. This inherent pricing and supply control puts us at a competitive disadvantage, and we could lose business to integrated steel producers even if we may have a better product. The recent acquisition or future acquisitions of U.S. tubular steel manufacturing capacity by foreign integrated steel producers could result in a loss of market share for Hydril. Other domestic and foreign steel producers who do not currently manufacture tubulars with premium connections may in the future enter the premium connections business and compete with us.

     The occurrence or threat of terrorist attacks could have an adverse affect on our results and growth prospects, as well as on our ability to access capital and obtain adequate insurance.

     The occurrence or threat of future terrorist attacks could adversely affect the economies of the United States and other developed countries. A lower level of economic activity could result in a decline in energy consumption, which could cause a decrease in spending by oil and gas companies for exploration and development. In addition, these risks could trigger increased volatility in prices for crude oil and natural gas which could also adversely affect spending by oil and gas companies. A decrease in spending for any reason could adversely affect the markets for our products and thereby adversely affect our revenue and margins and limit our future growth prospects. Moreover, these risks could cause increased instability in the financial and insurance markets and adversely affect our

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ability to access capital and to obtain insurance coverage that we consider adequate or are otherwise required by our contracts with third parties.

     The consolidation or loss of potential end-users of our products could adversely affect demand for our products and services and reduce our revenue.

     Exploration and production company operators and drilling contractors have undergone substantial consolidation in the last few years. Additional consolidation is probable. In addition, many oil and gas properties will be transferred over time to different potential customers.

     Consolidation results in fewer end-users for our products. In addition, merger activity among both major and independent oil and gas companies also affects exploration, development and production activity, as these consolidated companies attempt to increase efficiency and reduce costs. Generally, only the more promising exploration and development projects from each merged entity are likely to be pursued, which may result in overall lower post-merger exploration and development budgets. Moreover, some end-users are not as risk-averse and, as such, do not use as many premium products in drilling deep formation wells.

     In 2003, our largest premium connection customer accounted for 21% of segment sales, and our ten largest premium connection customers accounted for 64% of total segment sales. In 2003, our largest pressure control customer accounted for 27% of segment sales and our ten largest pressure control customers accounted for 65% of segment sales.

     The loss of one or more of our end-users, a reduction in exploration and development budgets as a result of industry consolidation or other reasons or a transfer of deep formation drilling prospects to end-users that do not rely as heavily on premium products could adversely affect demand for our products and services and reduce our revenue.

     Overcapacity in the pressure control industry and high fixed costs could exacerbate the level of price competition for our products, adversely affecting our business and revenue.

     There currently is and historically has been overcapacity in the pressure control equipment industry. When oil and gas prices fall, cash flows of our customers are reduced, leading to lower levels of expenditures and reduced demand for pressure control equipment. In addition, adverse economic conditions can reduce demand for oil and gas, which in turn could decrease demand for our pressure control products. Under these conditions, the overcapacity causes increased price competition in the sale of pressure control products and aftermarket services as competitors seek to capture the reduced business to cover their high fixed costs and avoid the idling of manufacturing facilities. Because we have multiple facilities that produce different types of pressure control products, it is even more difficult for us to reduce our fixed costs since to do so we might have to shut down more than one plant. During and after periods of increasing oil and gas prices when sales of pressure control products may be increasing, the overcapacity in the

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industry will tend to keep prices for the sale of pressure control products lower than if overcapacity were not a factor. As a result, when oil and gas prices are low, or are increasing from low levels because of increased demand, our business and revenue may be adversely affected because of either reduced sales volume or sales at lower prices or both.

     If we do not develop new technologies and products that are commercially successful, our revenue may decline or we may be required to write-off any capitalized investment.

     The markets for premium connections and pressure control products and services are characterized by continual technological developments. As a result, substantial improvements in the scope and quality of product function and performance can occur over a short period of time. If we are not able to develop commercially competitive products in a timely manner in response to changes in technology, our business and revenue may be adversely affected. Our future ability to develop new products depends on our ability to:

•		design and commercially produce products that meet the needs of our customers;
•		successfully market new products; and
•		obtain and maintain patent protection.

     We may encounter resource constraints or technical or other difficulties that could delay introduction of new products and services in the future. Our competitors may introduce new products before we do and achieve a competitive advantage. Additionally, the time and expense invested in product development may not result in commercial applications and provide revenue.

     For example, while we have incurred significant amounts in the development of new technologies, such as advanced composite tubing and subsea mudlift drilling, demand for these products may be limited for various reasons. In the case of subsea mudlift drilling, due in part to the cost to implement the technology, we do not anticipate any customer orders for the product in the near future. In addition, there are other groups of companies in our industry that are also developing competing technologies for deepwater drilling, and they may be ahead of us in completing development of their technology or develop more cost effective competing products.

     If we are unable to successfully implement technological or R&D type activities, our growth prospects may be reduced and the level of our future revenue may be materially and adversely affected. In addition, we would be required to write-off any capitalized investment in a product that is not a commercial success and does not have an alternative use. For example, in the case of advanced composite tubing, we recently wrote off a portion of our investment, recording a pre-tax impairment charge of $0.7 million in the third quarter of 2004. Moreover, we may experience operating losses after new products are introduced and commercialized because of high start-up costs, unexpected manufacturing costs or problems, or lack of demand.

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     Limitations on our ability to protect our intellectual property rights could cause a loss in revenue and any competitive advantage we hold.

     Some of our products and the processes we use to produce them have been granted United States and international patent protection, or have patent applications pending. Nevertheless, patents may not be granted from our applications and, if patents are issued, the claims allowed may not be sufficient to protect our technology. If our patents are not enforceable, our business may be adversely affected. In addition, if any of our products infringe patents held by others, our financial results may be adversely affected. Our competitors may be able to independently develop technology that is similar to ours without infringing on our patents. The latter is especially true internationally where the protection of intellectual property rights may not be as effective. In addition, obtaining and maintaining intellectual property protection internationally may be significantly more expensive than doing so domestically. We may have to spend substantial time and money defending our patents. After our patents expire, our competitors will not be legally constrained from developing products substantially similar to ours.

     The loss of any member of our senior management and other key employees may adversely affect our results of operations.

     Our success depends heavily on the continued services of our senior management and other key employees. Our senior management consists of a small number of individuals relative to other comparable or larger companies. These individuals are Christopher T. Seaver, our President and Chief Executive Officer, Charles E. Jones, our Executive Vice President and Chief Operating Officer, Neil G. Russell, our Senior Vice President-Premium Connections and Senior Vice President-Business Development, Chuck Chauviere, our Vice President-Pressure Control, and Chris D. North, our Chief Financial Officer. These individuals, as well as other key employees, possess sales and marketing, engineering, manufacturing, financial and administrative skills that are critical to the operation of our business. We generally do not have employment or non-competition agreements with members of our senior management or other key employees. If we lose or suffer an extended interruption in the services of one or more of our senior officers or other key employees, our results of operations may be adversely affected. Moreover, we may not be able to attract and retain qualified personnel to succeed members of our senior management and other key employees.

     Our quarterly sales and earnings may vary significantly, which could cause our stock price to fluctuate.

     Fluctuations in quarterly revenue and earnings could adversely affect the trading price of our common stock. Our quarterly revenue and earnings may vary significantly from quarter to quarter depending upon:

•

the level of drilling activity worldwide, as well as the particular geographic focus of the activity;

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•		the variability of customer orders, which are particularly unpredictable in international markets;
•		the mix of our products sold and the margins on those products;
•		new products offered and sold by us or our competitors;
•		weather conditions that can affect our customers’ operations;
•		changes in commodity prices and currency exchange rates, which in some cases affect the prices for our products; and
•		the level of long-term capital equipment project orders which varies with the level of new rig construction and refurbishment activity in the industry.

     In addition, our fixed costs cause our margins to decrease when demand is low and manufacturing capacity is underutilized.

     We could be subject to substantial liability claims, which would adversely affect our results and financial condition.

     Most of our products are used in hazardous drilling and production applications where an accident or a failure of a product can have catastrophic consequences. For example, if one of our blowout preventers fails, the oil and gases from the well may ignite or the equipment and tubulars in the well may be suddenly propelled out of the well, potentially resulting in injury or death of personnel, destruction of drilling equipment, environmental damage and suspension of operations. Damages arising from an occurrence at a location where our products are used have in the past and may in the future result in the assertion of potentially large claims against us.

     While we maintain insurance coverage against these risks, this insurance may not protect us against liability for some kinds of events, including specified events involving pollution, or against losses resulting from business interruption. Our insurance may not be adequate in risk coverage or policy limits to cover all losses or liabilities that we may incur. Moreover, we may not be able in the future to maintain insurance at levels of risk coverage or policy limits that we deem adequate. Any significant claims made under our policies will likely cause our premiums to increase. Any future damages caused by our products or services that are not covered by insurance, are in excess of policy limits or are subject to substantial deductibles, could reduce our earnings and our cash available for operations.

     If we are unable to attract and retain skilled labor, the results of our manufacturing and services activities will be adversely affected.

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     Our ability to operate profitably and expand our operations depends in part on our ability to attract and retain skilled manufacturing workers, equipment operators, engineers and other technical personnel. Because of the cyclical nature of our industry, many qualified workers choose to work in other industries where they believe lay-offs as a result of cyclical downturns are less likely. As a result, our growth may be limited by the scarcity of skilled labor. Even if we are able to attract and retain employees, the intense competition for them, especially when our industry is in the top of its cycle, may increase our compensation costs. Additionally, a significant increase in the wages paid by competing employers could result in a reduction in our skilled labor force, increases in the rates of wages we must pay or both. If our compensation costs increase or we cannot attract and retain skilled labor, the immediate effect on us would be a reduction in our profits and the extended effect would be diminishment of our production capacity and profitability and impairment of any growth potential.

     Changes in regulation or environmental compliance costs and liabilities could have a material adverse effect on our results and financial condition.

     Our business is affected by changes in public policy, federal, state and local laws and regulations relating to the energy industry. The adoption of laws and regulations curtailing exploration and development drilling for oil and gas for economic, environmental and other policy reasons may adversely affect our operations by limiting available drilling and other opportunities in the oil and gas exploration and production industry. Our operations and properties are subject to increasingly stringent laws and regulations relating to environmental protection, including laws and regulations governing air emissions, water discharges, waste management and workplace safety. Many of our operations require permits that may be revoked or modified, that we are required to renew from time to time. Failure to comply with such laws, regulations or permits can result in substantial fines and criminal sanctions, or require us to purchase costly pollution control equipment or implement operational changes or improvements. We incur, and expect to continue to incur, substantial capital and operating costs to comply with environmental laws and regulations.

     We could become subject to claims related to the release of hazardous substances which could adversely affect our results and financial condition.

     We use and generate hazardous substances and wastes in our manufacturing operations. In addition, many of our current and former properties are or have been used for industrial purposes for many years. Accordingly, we could become subject to potentially material liabilities relating to the investigation and cleanup of contaminated properties, including property owned or leased by us now or in the past or third party sites to which we sent waste for disposal. We also could become subject to claims alleging personal injury or property damage as the result of exposures to, or releases of, hazardous substances. In addition, stricter enforcement of existing laws and regulations, the enactment of new laws and regulations, the discovery of previously unknown contamination or the imposition of new or increased requirements could require us to incur costs or become the basis of new or increased liabilities that could reduce our earnings and our cash available for operations.

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See Note 4 “CONTINGENCIES” in Item 1 of this report for more information regarding environmental contingencies.

     Liability to customers under warranties may materially and adversely affect our earnings.

     We provide warranties as to the proper operation and conformance to specifications of the equipment we manufacture. Our pressure control equipment and premium connections are often deployed in critical environments including subsea applications. Failure of this equipment or our premium connections to operate properly or to meet specifications may increase our costs by requiring additional engineering resources and services, replacement of parts and equipment or monetary reimbursement to a customer. We have in the past received warranty claims and we expect to continue to receive them in the future. To the extent that we incur substantial warranty claims in any period, our reputation, our ability to obtain future business and our earnings could be materially and adversely affected.

     We may lose money on fixed price contracts, and such contracts could cause our quarterly revenue and earnings to fluctuate significantly.

     Almost all of our pressure control projects, including all of our larger engineered subsea control systems projects, are performed on a fixed-price basis. This means that we are responsible for all cost overruns, other than any resulting from change orders. Our costs and any gross profit realized on our fixed-price contracts could vary from the estimated amounts on which these contracts were originally based. This may occur for various reasons, including:

•		changes in cost, estimates or expected production time;
•		engineering design changes;
•		changes requested by customers; and
•		changes in the availability and cost of labor and material.

     The variations and the risks inherent in engineered subsea control systems projects may result in reduced profitability or losses on our projects. Depending on the size of a project, variations from estimated contract performance can have a significant impact on our operating results for any particular fiscal quarter or year. Our significant losses in 1997 through 1999 on fixed-price contracts to provide pressure control equipment and subsea control systems for pressure control equipment are an example of the problems we can experience with fixed-price contracts.

     Excess cash is invested in marketable securities which may subject us to potential losses.

     We invest excess cash in various securities and money market mutual funds rated as the highest quality by a nationally recognized rating agency. However, changes in the financial markets, including interest rates, as well as the performance of the issuing companies can affect the market value of our short-term investments.

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Part I, Item 3: Quantitative and Qualitative Disclosures About Market Risk

     There have been no significant changes since December 31, 2003 in the Company’s exposure to market risk.

Part I, Item 4: Controls and Procedures

     Hydril’s Chief Executive Officer and Chief Financial Officer have evaluated the Company’s disclosure controls and procedures as of September 30, 2004, and they have concluded that these controls and procedures are effective. There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part II, Item 6: Exhibits

Exhibits:

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SIGNATURE

     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.

	HYDRIL COMPANY
Date: November 5, 2004	By:	/s/ Chris D. North
		Chris D. North
		Chief Financial Officer (Authorized officer and principal accounting and financial officer)

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Index To Exhibits

Exhibits:

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