Compagnie Générale de Géophysique-Veritas

Annual Report 2006

Form 20-F

 

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

 

FORM 20-F

 

 

Commission File Number 001-14622

 

 

 

 

Compagnie Générale de Géophysique-Veritas

(Exact name of registrant as specified in its charter)

CGG Veritas

(Translation of registrant’s name into English)

Republic of France

(Jurisdiction of incorporation or organization)

Tour Maine Montparnasse

33, avenue du Maine

75015 Paris  France

(33) 1 64 47 45 00

(Address of principal executive offices)

 

 

 

 

Securities registered or to be registered pursuant to Section 12(b) of the Act.

 

Securities registered or to be registered pursuant to Section 12(g) of the Act.

None

(Title of class)

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

71/2% Senior Notes due 2015

73/4% Senior Notes 2017

(Title of class)

 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

17,597,888 Ordinary Shares, nominal value €2 per share

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes þ     No o

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

Yes o     No þ

 

Note — checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those sections.

 

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

Yes þ     No o

 

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

Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o

 

Indicate by check mark which financial statement item the registrant has elected to follow.

Item 17 o     Item 18 þ

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o     No þ

 

 

PRESENTATION OF INFORMATION

 

On September 4, 2006, CGG entered into a definitive merger agreement with Veritas to acquire Veritas in a part cash, part stock transaction. The merger (the “merger”) was completed on January 12, 2007, and upon completion of the merger, CGG was renamed Compagnie Générale de Géophysique-Veritas (abbreviated as CGG Veritas). Accordingly, where this annual report provides information for dates on or prior to December 31, 2006, such information relates to CGG only. We have also provided certain information relating to Veritas on or prior to December 31, 2006. Information in this annual report as of the latest practicable date before the date of filing relates to CGG Veritas.

 

As used in this annual report “CGG” refers to Compagnie Générale de Géophysique and its subsidiaries, except as otherwise indicated, “Veritas” refers to Veritas DGC Inc. and its subsidiaries before the merger between CGG and Veritas and to CGGVeritas Services Inc. following such merger, “CGG Veritas” refers to Compagnie Générale de Géophysique-Veritas, and , “we”, “us” and “our” refers to Compagnie Générale de Géophysique-Veritas and its subsidiaries, after merger and Compagnie Générale de Géophysique and its subsidiaries, before the merger except as otherwise indicated.

 

In this annual report, references to “United States” or “U.S.” are to the United States of America, references to “U.S. dollars”, “$” or “U.S.$” are to United States dollars, references to “France” are to the Republic of France, references to “Norway” are to the Kingdom of Norway, references to “NOK” are to Norwegian kroner and references to “euro” or “€” are to the single currency introduced at the start of the third stage of European Economic and Monetary Union pursuant to the Treaty Establishing the European Union.

 

As our shares are listed on the New York Stock Exchange (in the form of American Depositary Shares), we are required to file an annual report on Form 20-F with the SEC including our annual financial statements reconciled to accounting principles generally accepted in the United States (“U.S. GAAP”).

 

We adopted International Financial Reporting Standards (“IFRS”) as adopted by the European Union as our primary accounting principles as of January 1, 2005. For the years ended December 31, 2002, 2003 and 2004, we prepared our consolidated financial statements in accordance with French generally accepted accounting principles (“French GAAP”).

 

The differences between IFRS and U.S. GAAP as they relate to us, and the reconciliation of net income and shareholders’ equity to U.S. GAAP, are described in note 32 to our annual consolidated financial statements included in this annual report on Form 20-F.

 

Unless otherwise indicated, statements in this annual report relating to market share, ranking and data are derived from management estimates based, in part, on independent industry publications, reports by market research firms or other published independent sources. Any discrepancies in any table between totals and the sums of the amounts listed in such table are due to rounding.

 

FORWARD-LOOKING STATEMENTS

 

This annual report includes “forward-looking statements” within the meaning of the federal securities laws, which involve risks and uncertainties, including, without limitation, certain statements made in the sections entitled “Information on the Company” and “Operating and Financial Review and Prospectus”. You can identify forward-looking statements because they contain words such as “believes”, “expects”, “may”, “should”, “seeks”, “approximately”, “intends”, “plans”, “estimates”, or “anticipates” or similar expressions that relate to our strategy, plans or intentions. These forward-looking statements are subject to risks and uncertainties that may change at any time, and, therefore, our actual results may differ materially from those that we expected. We have based these forward-looking statements on our current views and assumptions about future events. While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and, of course, it is impossible for us to anticipate all factors that could affect our actual results. All forward-looking statements are based upon information available to us on the date of this annual report.

 

Important factors that could cause actual results to differ materially from our expectations (“cautionary statements”) are disclosed under “Item 3: Key Information — Risk Factors” and elsewhere in this annual report,

including, without limitation, in conjunction with the forward-looking statements included in this annual report. Some of the factors that we believe could affect our actual results include:

 

 

We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. We caution you that the foregoing list of important factors may not contain all of the material factors that are important to you. In addition, in light of these risks, uncertainties and assumptions, the forward-looking events discussed in this annual report might not occur. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements included in this annual report, including those described in “Item 3: Key Information — Risk Factors” of this annual report.

 

TABLE OF CONTENTS

 

 

Not applicable.

 

Not applicable.

 

Selected Financial Data

 

In accordance with regulations adopted by the European Union in July 2002, all companies incorporated under the laws of one of the member states of the European Union and whose securities are publicly traded within the European Union were required to prepare their consolidated financial statements for the fiscal year starting on or after January 1, 2005, on the basis of accounting standards issued by the International Accounting Standards Board. Therefore, in accordance with these requirements, we converted from using French generally accepted accounting principles to IFRS, as adopted by the European Union.

 

The tables below set forth our selected consolidated financial and operating data:

 

 

The selected data included below should be read in conjunction with, and are qualified in their entirety by reference to, our consolidated financial statements and “Item 5: Operating and Financial Review and Prospects” included elsewhere in this annual report. The selected data included below are for CGG prior to the merger with Veritas, which was completed on January 12, 2007. The selected financial data for each of the years in the three-year period ended December 31, 2006 have been derived from our audited consolidated financial statements prepared in accordance with IFRS, which differ in certain respects from U.S. GAAP.

 

The differences between IFRS and U.S. GAAP as they relate to us, and the reconciliation of net income and shareholders’ equity to U.S. GAAP are described in Note 32 to our consolidated financial statements included in this annual report.

 

 

 

 

 

The following table presents a reconciliation of capital expenditures to purchases of property, plant and equipment and equipment acquired under capital lease for the periods indicated:

 

 

 

Exchange Rates

 

The following table shows, for the periods indicated, information concerning the exchange rate between the U.S. dollar and the euro. This information is provided solely for your information, and we do not represent that euros could be converted into U.S. dollars at these rates or at any other rate. These rates are not the rates used by us in the preparation of our consolidated financial statements incorporated by reference into this proxy statement/prospectus.

 

The data provided in the following table is expressed in U.S. dollars per euro and is based on noon buying rates published by the Federal Reserve Bank of New York for the euro. On May 4, 2007, the most recent practicable day prior to the date of this annual report, the exchange rate was €1.00 = $1.3587.

 

 

 

Notes:

 

 

Capitalization and Indebtedness

 

Not applicable.

 

Reasons for the Offer and Use of Proceeds

 

Not applicable.

 

Risk Factors

 

Risks Related to Our Business

 

  We are subject to risks related to our international operations that could harm our business and results of operations.

 

With operations worldwide, and with a majority of our revenues likely to be derived outside of the United States and Western Europe, including in emerging markets, our business and results of operations will be subject to various risks inherent in international operations. These risks include:

 

 

We are exposed to these risks in all of our foreign operations to some degree, and our exposure could be material to our financial condition and results of operations in emerging markets where the political and legal environment is less stable.

 

While we carry insurance against political risks associated with such operations in amounts we consider appropriate in accordance with industry practices, we cannot assure you that we will not be subject to material adverse developments with respect to our international operations or that our coverage will be adequate to cover us for any losses arising from such risks.

 

Revenue generating activities in certain foreign countries may require prior United States government approval in the form of an export license and may otherwise be subject to tariffs and import/export restrictions. These laws can change over time and may result in limitations on our ability to compete globally. In addition, non-U.S. persons employed by our separately incorporated non-U.S. entities will conduct business in some foreign jurisdictions that have been subject to U.S. trade embargoes and sanctions by the U.S. Office of Foreign Assets Control. We have typically generated revenue in these countries through the performance of data processing, reservoir consulting services and the sale of software licenses and software maintenance. We have current and ongoing relations with customers in these countries. CGG and Veritas did, and we do, have procedures in place to conduct these operations in compliance with applicable U.S. laws. However, failure to comply with U.S. laws on foreign operations could result in material fines and penalties and damage to our reputation. In addition, our activities in these countries could reduce demand for our securities among certain investors.

 

We and certain of our subsidiaries and affiliated entities also conduct business in countries which experience government corruption. We are committed to doing business in accordance with all applicable laws and our codes of ethics, but there is a risk that we, our subsidiaries or affiliated entities or our respective officers, directors, employees and agents may take action in violation of applicable laws, including the Foreign Corrupt Practices Act of 1977. Any such violations could result in substantial civil and/or criminal penalties and might materially adversely affect our business and results of operations or financial condition.

 

  We are subject to certain risks related to acquisitions, including the merger with Veritas DGC Inc., and these risks may materially adversely affect our revenues, expenses, operating results and financial condition.

 

The merger of CGG and Veritas on January 12, 2007 involved the integration of two companies that had previously operated independently and as competitors. CGG and Veritas entered into the merger with the expectation that, among other things, the merger would enable us to achieve expected cost synergies from having one rather than two public companies as well as the redeployment of support resources towards operations and premises rationalization. Achieving the benefits of the merger will depend in part upon meeting the challenges inherent in the successful combination and integration of global business enterprises of the size and scope of CGG and Veritas and the possible resulting diversion of management attention for an extended period of time. There can be no assurance that we will meet these challenges and that such diversion will not negatively affect our operations. In addition, delays encountered in the transition process could have a material adverse effect on our revenues, expenses, operating results and financial condition. Although CGG and Veritas expect to derive significant benefits from the merger, there can be no assurance that we will actually achieve anticipated synergies or other benefits expected from the merger.

 

In addition, in the past we have grown by acquisition, and we may acquire companies or assets in the future. Such acquisitions, whether completed or in the future, present various financial and management-related risks, including integration of the acquired businesses in a cost-effective manner; implementation of a combined intended business strategy; diversion of our management’s attention; outstanding or unforeseen legal, regulatory, contractual, labor or other issues arising from the acquisitions; additional capital expenditure requirements; retention of customers; integration of different company and management cultures; operation in new geographic markets; the need for more extensive management coordination; and retention, hiring and training of key personnel. Should any of these risks associated with acquisitions materialize, it could have a material adverse effect on our business, financial condition and results of operations.

 

  We invest significant amounts of money in acquiring and processing seismic data for multi-client surveys and for our data library without knowing precisely how much of the data we will be able to sell or when and at what price we will be able to sell the data.

 

We invest significant amounts of money in acquiring and processing seismic data that we will own. By making such investments, we are exposed to risks that:

 

 

For example, in its fiscal years 2003 and 2002, Veritas incurred $4.9 million and $55.3 million, respectively, in impairment charges related to surveys with relatively low levels of sales in its multi-client library. These surveys were found to be impaired for various reasons, including slow acreage turnover in the case of U.S. land surveys, a border dispute in the case of a Shetland-Faroes survey and excessive acquisition cost in the case of a Gulf of Mexico survey. In addition, a decision by the Norwegian government on March 31, 2006 not to award exploration-production licenses in the area where one of CGG’s surveys is located (Moere) changed CGG’s previous estimate of future sales, and caused this €4.6 million survey to be fully depreciated at March 31, 2006. Additionally, each of our individual surveys has a minimum book life based on its location, so particular surveys may be subject to significant

amortization even though sales of licenses associated with that survey are weak or non-existent, thus reducing our profits.

 

  Our results of operations may be significantly affected by currency fluctuations.

 

We derive a substantial amount of our revenues from international sales, subjecting us to risks relating to fluctuations in currency exchange rates. Our revenues and expenses are denominated in currencies including the euro, the U.S. dollar and, to a significantly lesser extent, other non-euro Western European currencies, principally the British pound and the Norwegian kroner. Historically, a significant portion of CGG’s revenues that were invoiced in euros related to contracts that were effectively priced in U.S. dollars, as the U.S. dollar often serves as the reference currency when bidding for contracts to provide geophysical services. CGG’s U.S. dollar-linked revenues have increased considerably over the last few years due to increased sales outside of Europe.

 

Fluctuations in the exchange rate of the euro against such other currencies, particularly the U.S. dollar, can have a significant effect upon our results of operations, which are reported in euros. The merger will increase both our dollar-denominated revenues and expenses, as Veritas’ revenues and expenses have historically been denominated largely in U.S. dollars. In addition, since we participate in competitive bids for data acquisition contracts that are denominated in U.S. dollars, a depreciation of the U.S. dollar against the euro harms our competitive position against companies whose costs and expenses are denominated to a greater extent in U.S. dollars. For financial reporting purposes, such depreciation will negatively affect our reported results of operations since U.S. dollar-denominated earnings that are converted to euros are stated at a decreased value. While CGG has in the past attempted to reduce the risks associated with such exchange rate fluctuations through its hedging policy, we cannot assure you that we will be effective or that fluctuations in the values of the currencies in which we operate will not materially adversely affect our future results of operations.

 

    Our working capital needs are difficult to forecast and may vary significantly, which could result in additional financing requirements that we may not be able to meet on satisfactory terms, or at all.

 

It will be difficult for us to predict with certainty our working capital needs. This difficulty is due primarily to working capital requirements related to the marine seismic acquisition business and related to the development and introduction of new lines of geophysical equipment products. For example, under specific circumstances, we may extend the length of payment terms we grant to customers or increase our inventories substantially. We may therefore be subject to significant and rapid increases in our working capital needs that we may have difficulty financing on satisfactory terms, or at all, due to limitations in our debt agreements.

 

  Technological changes and new products and services are frequently introduced in the market, and our technology could be rendered obsolete by these introductions, or we may not be able to develop and produce new and enhanced products on a cost-effective and timely basis.

 

Technology changes rapidly in the seismic industry, and new and enhanced products are frequently introduced in the market for our products and services, particularly in our equipment manufacturing and data processing and geosciences sectors. Our profitability and ability to generate cash depends to a significant extent upon our ability to develop and produce new and enhanced products and services on a cost-effective and timely basis in accordance with industry demands. While we commit substantial resources to research and development, we may encounter resource constraints or technical or other difficulties that could delay the introduction of new and enhanced products and services in the future. In addition, the continuing development of new products risks making our older products obsolete. New and enhanced products and services, if introduced, may not gain market acceptance and may be materially adversely affected by technological changes or product or service introductions by one of our competitors.

 

  The nature of our business subjects us to significant ongoing operating risks for which we may not have adequate insurance or for which we may not be able to procure adequate insurance on economical terms, if at all.

 

Our seismic data acquisition activities, particularly in deepwater marine areas, are often conducted under harsh weather and other hazardous operating conditions. These operations are subject to risks of loss to property and injury to personnel from fires, accidental explosions, ice floes and high seas. These types of events could result in loss from business interruption, delay, equipment destruction or other liability. We carry insurance against the destruction of or damage to our seismic equipment and against business interruption for our data processing activities in amounts we consider appropriate in accordance with industry practice. However, our insurance coverage may not be adequate in all circumstances or against all hazards, and we may not be able to maintain adequate insurance coverage in the future at commercially reasonable rates or on acceptable terms.

 

  We depend on proprietary technology and are exposed to risks associated with the misappropriation or infringement of that technology.

 

Our results of operations depend in part upon our proprietary technology. We rely on a combination of patents, trademarks and trade secret laws to establish and protect our proprietary technology. We currently hold 145 patents in various countries for products and processes. These patents last between four and twenty years, depending on the date of filing and the protection accorded by each country. In addition, we enter into confidentiality and license agreements with our employees, customers and potential customers and limit access to and distribution of our technology. However, actions that we take to protect our proprietary rights may not be adequate to deter the misappropriation or independent third-party development of our technology. Although none of CGG Veritas, CGG or Veritas has been involved in any material litigation regarding its intellectual property rights or the possible infringement of intellectual property rights of others, such litigation may be brought in the future. In addition, the laws of certain foreign countries do not protect proprietary rights to the same extent as either the laws of France or the laws of the United States, which may limit our ability to pursue third parties that misappropriate our proprietary technology.

 

  A failure to attract and retain qualified employees may materially adversely affect our future business and operations.

 

Our future results of operations will depend in part upon our ability to retain our existing highly skilled and qualified employees and to attract new employees. A number of our employees are highly skilled scientists and highly trained technicians, and failure by us to continue to attract and retain such individuals could materially adversely affect our ability to compete in the geophysical services industry.

 

We compete with other seismic products and services companies and, to a lesser extent, companies in the oil industry for skilled geophysical and seismic personnel, particularly in times, such as the present, when demand for seismic services is relatively high. A limited number of such skilled personnel is available, and demand from other companies may limit our ability to fill our human resources needs. If we are unable to hire, train and retain a sufficient number of qualified employees, this could impair our ability to manage and maintain our business and to develop and protect our know-how. Our success will also depend to a significant extent upon the abilities and efforts of members of our senior management, the loss of whom could materially adversely affect our business and results of operations.

 

In addition, key employees may depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with CGG Veritas following the merger. Although following the merger we have not observed significant departures of key scientific and technical personnel, several members of Veritas’ senior management are no longer employed by us. Accordingly, no assurance can be given that we will be able to attract or retain key employees to the same extent that CGG and Veritas have been able to attract or retain their own employees in the past. Any failure to do so could have a material adverse effect on our business and results of operations.

 

  CGG and Veritas have had losses in the past and we cannot assure that we will be profitable in the future.

 

CGG recorded net losses in 2004 and 2005 (attributable to shareholders) of €6.4 million and €7.8 million, respectively, although excluding the accounting impact under IFRS of its 7.75% subordinated convertible bonds due 2012 denominated in U.S. dollars, its net income would have been positive. Veritas recorded a net loss of $59.1 million in its fiscal year 2003. We cannot assure you that we will be profitable in the future.

 

Risks Related to the Industry

 

  We depend on capital expenditures by the oil and gas industry, and reductions in such expenditures may have a material adverse effect on our business.

 

Demand for our products and services has historically been dependent upon the level of capital expenditures by oil and gas companies for exploration, production and development activities. These expenditures are significantly influenced by oil and gas prices and by expectations regarding future oil and gas prices. Oil and gas prices may fluctuate based on relatively minor changes in the supply of and demand for oil and gas, expectations regarding future supply of and demand for oil and gas and certain other factors beyond our control. Lower or volatile oil and gas prices tend to limit the demand for seismic services and products.

 

Factors affecting the prices of oil and gas include:

 

 

Although oil and gas prices are currently high compared with historical values, which generally increases demand for seismic products and services, the markets for oil and gas historically have been volatile and are likely to continue to be so in the future.

 

We believe that global geopolitical uncertainty or uncertainty in the Middle Eastern producing regions (where we are particularly active) could lead oil companies to suddenly delay or cancel current geophysical projects. Any events that affect worldwide oil and gas supply, demand or prices or that generate uncertainty in the market could reduce exploration and development activities and materially adversely affect our operations. We cannot assure you as to future oil and gas prices or the resulting level of industry spending for exploration, production and development activities.

 

  We are subject to intense competition, which could limit our ability to maintain or increase our market share or to maintain our prices at profitable levels.

 

Most of our contracts are obtained through a competitive bidding process, which is standard for the seismic services industry in which we operate. Competitive factors in recent years have included price, crew availability, technological expertise and reputation for quality, safety and dependability. While no single company competes with us in all of our segments, we are subject to intense competition in each of our segments. We compete with large, international companies as well as smaller, local companies. In addition, we compete with major service providers and government-sponsored enterprises and affiliates. Some of our competitors operate more data acquisition crews than we do and have greater financial and other resources. These and other competitors may be better positioned to withstand and adjust more quickly to volatile market conditions, such as fluctuations in oil and gas prices and

production levels, as well as changes in government regulations. In addition, if geophysical service competitors increase their capacity in the future (or do not reduce capacity if demand decreases), the excess supply in the seismic services market could apply downward pressure on prices. The negative effects of the competitive environment in which we operate could have a material adverse effect on our results of operations.

 

  We have high levels of fixed costs that are incurred regardless of our level of business activity.

 

We have high fixed costs. As a result, downtime or low productivity due to, among other things, reduced demand, weather interruptions, equipment failures or other causes could result in significant operating losses. Low utilization rates may hamper our ability to recover the cost of necessary capital investments.

 

  Our land and marine seismic acquisition revenues vary significantly during the year.

 

Our land and marine seismic acquisition revenues are partially seasonal in nature. The offshore data acquisition business is, by its nature, exposed to unproductive interim periods due to necessary repairs or transit time from one operational zone to another during which revenue is usually not recognized. Other factors that cause variations from quarter to quarter include the effects of weather conditions in a given operating area, the internal budgeting process of some important clients relative to their exploration expenses, the timing of the receipt and commencement of contracts for data acquisition, the timing of offshore lease sales and the effect of such timing on the demand for geophysical activities and the timing of sales of licenses to geophysical data in our multi-client data library, which may be significant and which are not typically made in a linear or consistent pattern. Combined with our high fixed costs, these revenue fluctuations could produce unexpected material adverse effects on our results of operations in any fiscal period.

 

  Our business is subject to governmental regulation, which may adversely affect our future operations.

 

Our operations are subject to a variety of federal, provincial, state, foreign and local laws and regulations, including environmental, health and safety laws. We need to invest financial and managerial resources to comply with these laws and related permit requirements. Our failure to do so could result in fines or penalties, enforcement actions, claims for personal injury or property damages, or obligations to investigate and/or remediate contamination. Failure to timely obtain the required permits may also result in crew downtime and operating losses. Moreover, if applicable laws and regulations, including environmental, health and safety requirements, or the interpretation or enforcement thereof, become more stringent in the future, we could incur capital or operating costs beyond those currently anticipated. The adoption of laws and regulations that directly or indirectly curtail exploration by oil and gas companies could also materially adversely affect our operations by reducing the demand for our geophysical products and services.

 

Risks Related to our Indebtedness

 

  Our substantial debt could adversely affect our financial health and prevent us from fulfilling our obligations.

 

We have a significant amount of debt. As at March 31, 2007, our total financial debt, total assets and shareholders’ equity were €1.6 billion, €4.8 billion and €2.3 billion, respectively. We cannot assure you that we will be able to generate sufficient cash to service our debt or sufficient earnings to cover fixed charges in future years.

 

Our substantial debt could have important consequences. In particular, it could:

 

 

 

  Our debt agreements contain restrictive covenants that may limit our ability to respond to changes in market conditions or pursue business opportunities.

 

The indentures governing our 71/2% senior notes due 2015 and our 73/4% senior notes due 2017 (the “senior notes”) and the agreements governing our credit facilities (including our U.S.$1.140 billion senior credit agreement dated January 12, 2007 (the “senior facilities”) and our U.S.$200 million French revolving facility dated February 7, 2007 (the “French revolving facility”) ) contain restrictive covenants that limit our ability and the ability of certain of our subsidiaries to, among other things:

 

 

Complying with the restrictions contained in some of these covenants requires us to meet certain ratios and tests, notably with respect to consolidated interest coverage, total assets, net debt, equity and net income. The requirement that we comply with these provisions may materially adversely affect our ability to react to changes in market conditions, take advantage of business opportunities we believe to be desirable, obtain future financing, fund needed capital expenditures, finance our equipment purchases, increase research and development expenditures, or withstand a continuing or future downturn in our business.

 

  If we are unable to comply with the restrictions and covenants in the indentures and debt agreements governing our senior notes and other debt, there could be a default under the terms of these indentures and agreements, which could result in an acceleration of repayment.

 

If we are unable to comply with the restrictions and covenants in the indentures governing the senior notes or in current or future debt agreements, including agreements governing the Senior facilities and the French revolving facility, there could be a default under the terms of these indentures and agreements. Our ability to comply with these restrictions and covenants, including meeting financial ratios and tests, may be affected by events beyond our control. As a result, we cannot assure you that we will be able to comply with these restrictions and covenants or meet these tests. In the event of a default under these agreements, lenders could terminate their commitments to lend or accelerate the loans and declare all amounts borrowed due and payable. Borrowings under other debt instruments that contain cross-acceleration or cross-default provisions may also be accelerated and become due and payable. If any of these events occur, our assets might not be sufficient to repay in full all of our outstanding indebtedness, including the notes offered hereby, and we may be unable to find alternative financing. Even if we could obtain alternative financing, it might not be on terms that are favorable or acceptable to us.

 

  We and our subsidiaries may incur substantially more debt.

 

We and our subsidiaries may incur substantial additional debt (including secured debt) in the future. The terms of the indentures governing the senior notes and our existing senior indebtedness will limit, but not prohibit, us and our subsidiaries from doing so. As of March 31, 2007, we had no outstanding drawings under our U.S.$140 million

U.S. revolving facility and our U.S.$200 million French revolving facility. If new debt is added to the current debt levels of us and our subsidiaries, the related risks for us could intensify.

 

  To service our indebtedness, we will require a significant amount of cash, and our ability to generate cash will depend on many factors beyond our control.

 

Our ability to make payments on and to refinance our indebtedness, and to fund planned capital expenditures will partly depend on our ability to generate cash in the future. This ability is, to a certain extent, subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. See “— Risks Related to Our Business” and “— Risks Related to the Industry”.

 

We cannot assure you that we will generate sufficient cash flow from operations, that we will realize operating improvements on schedule or that future borrowings will be available to us in an amount sufficient to enable us to service and repay our indebtedness or to fund our other liquidity needs. If we are unable to satisfy our debt obligations, we may have to undertake alternative financing plans, such as refinancing or restructuring our indebtedness, selling assets, reducing or delaying capital investments or seeking to raise additional capital. We cannot assure you that any refinancing or debt restructuring would be possible, that any assets could be sold or that, if sold, the timing of the sales and the amount of proceeds realized from those sales, or that additional financing could be obtained on acceptable terms.

 

  Our results of operations could be materially adversely affected by changes in interest rates.

 

Our sources of liquidity include credit facilities and debt securities which are or may be subject to variable interest rates. In particular, the senior facilities are subject to interest based on U.S. dollar LIBOR. As a result, our interest expenses could increase significantly if short-term interest rates increase. Each 50 basis point increase in LIBOR would increase our interest expense by approximately U.S.$5 million per year.

 

History and Development of the Company

 

We were established in 1931 to market geophysical techniques for appraising underground geological resources. Since that time, we have gradually come to specialize in seismic techniques adapted to exploration for and production of oil and gas, while continuing to carry on other geophysical activities. Compagnie Générale de Géophysique-Veritas is the parent company of the group. We are a société anonyme incorporated under the laws of the Republic of France and operating under the French Code de commerce. Our registered office is Tour Maine Montparnasse, 33, avenue du Maine, 75015 Paris, France. Our telephone number is (33) 1 64 47 4500.

 

Over the course of the last three years, we completed numerous acquisitions and dispositions which are described in “Item 5: Operating and Financial Review and Prospects — Acquisitions and Dispositions” and elsewhere in this annual report.

 

Business Overview

 

We believe we are a leading international provider of geophysical services and manufacturer of geophysical equipment. We provide geophysical services principally to oil and gas companies that use seismic imaging to help explore for, develop and manage oil and gas reserves by:

 

 

We sell our geophysical equipment primarily to other geophysical service companies.

 

Our operations are organized into two main segments: Services and Products. Services accounted for approximately 64% and 60% and Products accounted for approximately 36% and 40% of CGG’s consolidated

revenues for the years ended December 31, 2005 and 2006, respectively. We generate revenues (by location of customers) on a worldwide basis.

 

For the year ended December 31, 2006, approximately 34% of CGG consolidated revenues were from the Americas, 34% from the Middle East and the Asia-Pacific region, 22% from Europe and CIS, and 10% from Africa. For the year ended December 31, 2006, approximately 36% of CGG’s consolidated revenues were from the Americas, 32% from the Middle East and Asia-Pacific region, 22% from Europe and CIS and 10% from Africa.

 

Veritas provides geophysical services and geophysical software products but does not manufacture geophysical equipment. Service operations accounted for 98% and Veritas Hampson-Russell (VHR), Veritas’ proprietary software business, accounted for 2% of Veritas’ consolidated revenues for the year ended July 31, 2006.

 

For the year ended July 31, 2006, approximately 67% of Veritas consolidated revenues were from the Americas, 17% from the Middle East and the Asia-Pacific region, 11% from Europe and CIS, and 5% from Africa.

 

  The Merger

 

On January 12, 2007, CGG acquired Veritas (the “merger”) pursuant to an agreement and plan of merger dated September 4, 2006 (the “merger agreement”). In the merger, CGG issued an aggregate of 46.1 million ADSs and paid an aggregate of U.S.$1.5 billion in cash to holders of Veritas stock. Upon completion of the merger, CGG was renamed Compagnie Générale de Géophysique-Veritas (abbreviated as CGG Veritas).

 

  Merger Rationale

 

We believe a number of strategic factors supported the merger, including the following:

 

 

Industry Conditions

 

Overall demand for geophysical services and equipment is dependent upon spending by oil and gas companies for exploration, production development and field management activities. This spending depends in part on present and expected future oil and gas prices.

 

We believe that the medium-term outlook for the geophysical services sector, particularly the offshore segment, and the demand for the geophysical products is fundamentally positive for a number of reasons:

 

 

We believe that the merger puts us in a strong position to benefit from these industry conditions.

 

Our Strategy

 

We intend to continue to strengthen our competitive position in the global geophysical services and products markets by capitalizing on growth opportunities resulting from both the application of new technologies in every sector of the oil and gas business — from exploration to production and reservoir management — and from our diversified geographic presence.

 

To achieve this objective, we have adopted the following strategies:

 

  Focus on Growth Areas for Geophysical Services

 

We believe that the continued development and enhancement of our proprietary seismic data recording equipment and software will help us to remain among the leading providers of 3D land seismic surveys. We believe that our proprietary equipment and software provide us with a competitive advantage in specific growth markets, such as data acquisition in transition zones and difficult terrain, where recent technological advances have made seismic acquisition more feasible. We intend to focus on developing our technological capabilities in emerging markets for geophysical services, such as reservoir appraisal and production monitoring. We believe that, due to our extensive international experience, we also have a competitive advantage in certain geographic markets such as Europe, Africa, the Middle East and Latin America, where we have been operating longer than many of our competitors and where we have developed partnerships with local seismic acquisition companies in several countries in these regions. We also believe that we have unique experience and expertise in complex land acquisition projects.

 

Our acquisition of Exploration Resources in September 2005 following our previous significant acquisition of marine seismic assets from Aker Geo in 2001 fits within the strategy we defined in 1999 to strengthen our position in the marine seismic segment. In addition, we believe that the combination of CGG and Veritas has created a strong global pure-play seismic company, offering a broad range of seismic services, and, through Sercel, geophysical equipment to the industry across all markets. We believe the geographic complementarities of CGG and Veritas will allow us to respond to the growing demand for seismic imaging and reservoir solutions.

 

We also intend to maintain our position in the marine seismic market for non-exclusive data by developing our non-exclusive data library. We believe that a strong position in this market segment enhances our global competitive position and may provide opportunities for continuing future sales. In developing our non-exclusive data library, we

carefully select survey opportunities in order to maximize our return on investment. In 2006, for example, we carried out several feasibility studies for permanent seismic monitoring, most notably in Brazilian basins. We also intend to apply the latest advances in depth imaging technology to a selected part of our existing library.

 

Given the growing importance of geophysics in reservoir characterization, we intend to further develop the synergies between our data processing and reservoir services. This approach places us in a better position to meet the requirements of our clients with an extensive range of integrated services. We also intend to increase our processing capability in developing disciplines, such as applications relating to reservoir description and monitoring, including 3D pre-stack depth imaging, multi-component and 4D studies. We also plan to continue promoting and developing our dedicated processing centre services within our clients’ offices and to develop our regional centers.

 

  Develop Technological Synergies for Products and Capitalize on New Generation Equipment

 

We believe Sercel is the leading producer of land, marine and subsea geophysical equipment, particularly in difficult terrain. We plan to continue developing synergies among the technologies available within Sercel and to capitalize fully on our position as a market leader. Through internal expenditures on research and development, we seek to improve existing products and maintain an active new product development program in all segments of the geophysical equipment market (land, marine and ocean-bottom).

 

  Develop and Utilize Innovative Technology

 

We believe that growth in demand for geophysical services will continue to be driven in part by the development of new technologies. The industry is increasingly demanding clearer seismic imaging and better visibility, particularly underneath salt layers. Recent technologies used to acquire seismic data, such as the performance of multi-azimuth technologies, enhances the understanding of complex geological structures. We expect multi-azimuth, multi-component (3C/4C) surveys and time-lapse (4D) surveys to become increasingly important for new production-related applications, particularly in the marine sector, and expect specialized recording equipment for difficult terrain to become more important in land seismic data acquisition, particularly in transition zones and shallow water. We believe that to remain competitive, geophysical services companies will need to combine advanced data acquisition technology with consistently improving processing capacity in order to reduce further delivery times for seismic services.

 

We believe that the combined technology and know-how of CGG and Veritas will strengthen research and development capabilities to best serve the CGG Veritas client base with a broader range of technologies that we will be able to deliver more rapidly to the market.

 

Our strategy is to take advantage of our leading technology and our ability to integrate our full range of services to enhance our position as a market leader in:

 

 

In this respect, we intend to continue our high level of research and development investment to reinforce our technological leadership.

 

  Emphasize Client Service

 

We believe it is important to operate in close proximity to our clients to develop a better understanding of their individual needs and to add measurable value to their business processes. We respond to these needs by creating new products or product enhancements that improve the quality of data and reduce the data delivery time to clients. We believe that our regional multi-client and dedicated data processing centers in our clients’ offices provide us with an advantage in identifying contract opportunities, optimizing service to clients and developing products responsive to

new market demands, such as seismic techniques applied to reservoir management. We believe that we are well positioned to benefit from the industry trend towards increased outsourcing that is leading oil and gas companies to place greater emphasis on relationships and service quality, including health, safety and protection of the environment, in their selection of third party service providers, including geophysical services providers. We plan to continue implementing our strategy toward client service through:

 

 

  Provide Integrated Services

 

We are committed to providing clients with a full array of seismic data services, from acquisition and processing to data interpretation and management. We believe that integration of compatible technology and equipment increases the accuracy of data acquisition and processing, enhances the quality of our client service and thereby improves productivity in oil and gas exploration and production. Our clients increasingly seek integrated solutions to better evaluate known reserves and improve the ratio of recoverable hydrocarbons from producing fields. We are continuing to develop our ability to provide geosciences solutions through a combination of various exploration and production services, including technical data management, reservoir characterization and interpretation of well information.

 

  Exploit Strong Data Libraries

 

In addition, we intend to take advantage of the complementary, recent vintage, well-positioned seismic data libraries of CGG and Veritas. For example, in the Gulf of Mexico, Veritas’ data library is positioned in the Western and Central Gulf while CGG’s data library is in the Central and Eastern Gulf. Data merging from the CGG and Veritas libraries will provide potential for cross imaging enhancement and value creation by applying the latest processing software development to achieve an optimal image. Onshore, Veritas’ land library offers additional potential in North America. Our combined library is a strength in a market where a global library portfolio is increasingly attractive to clients.

 

  Develop Reservoir Applications

 

Seismic data is currently mainly used by oil and gas companies for exploration purposes. However, we are progressively extending our core business towards compiling and analyzing seismic data of existing reservoirs. Through high-resolution images and our expertise in 4D seismic and permanent monitoring, we aim to assist hydrocarbon producers in better characterizing and predicting the static properties and dynamic behavior of their reservoirs.

 

Operating Revenues Data

 

  CGG Revenues by Business Lines

 

The following table sets forth CGG’s consolidated operating revenues by activity, and the percentage of total consolidated operating revenues represented thereby, for the periods indicated:

 

 

Veritas Revenues by Business Lines

 

The following table sets forth Veritas’ consolidated operating revenues by activity, and the percentage of total consolidated operating revenues represented thereby, for the periods indicated:

 

 

  CGG Revenues by Region (by location of customers)

 

The following table sets forth CGG’s consolidated operating revenues by region, and the percentage of total consolidated operating revenues represented thereby, for the periods indicated:

 

  Veritas Revenues by Region

 

The following table sets forth Veritas’ consolidated operating revenues by region, and the percentage of total consolidated operating revenues represented thereby, for the periods indicated:

 

 

Services

 

CGG Services were historically organized into the following three Strategic Business Units (“SBUs”) for increased efficiency.

 

 

Our products segment, which conducts business primarily through our subsidiary Sercel Holding S.A. and its subsidiaries (“Sercel”), manufactures and sells seismic data acquisition equipment, both for land and offshore use.

 

Following the merger with Veritas, our Services segment is now organized by region to better promote our entire spectrum of services in our main markets, focusing on providing comprehensive solutions to client problems. We believe that our capacity to provide integrated geophysical services is a significant competitive advantage in implementing all components of our strategy.

 

Land Business Line

 

  Land Seismic Acquisition

 

Land seismic acquisition includes all seismic surveying techniques where the recording sensor is either in direct contact with, or in close proximity to, the ground. Our Land SBU offers integrated services, including the acquisition and on site processing of seismic data on land, in transition zones and on the ocean floor (seabed surveys). Land activities accounted for 14% of CGG’s consolidated operating revenue and 35% of Veritas’ consolidated revenues, for the years ended December 31, 2005 and July 31, 2006, respectively.

 

CGG was a significant land seismic contractor outside North America, particularly in difficult terrain. At December 31, 2006, CGG had 10 land crews performing specialized 3D and 2D seismic surveys, all of which were recording data. Revenues from our Land SBU accounted for approximately 14% and 9% of our revenues in 2005 and 2006, respectively.

 

Veritas’ land acquisition activities are performed with technologically advanced geophysical equipment. As at July 31, 2006, Veritas’ land survey equipment had a combined recording capacity of 52,000 channels. Veritas typically deploys equipment in North and South America and Oman by crews of varying size. Veritas’ crew count varied widely as land acquisition is a seasonal activity in many markets, primarily due to weather. Veritas had an average of 12 crews in operation in the fiscal year ended July 31, 2006.

 

  CGG Land Acquisition Activity

 

Seismic surveying on land is carried out by installing geophones linked to digital recorders that are used to receive the signals from reflected acoustical waves. Vibroseismic vehicles are the preferred method of generating acoustical waves since the frequency of the waves they emit can be precisely modulated by a computerized system and is less susceptible to noise or error. In difficult terrain or transition zones, however, other methods of generating acoustical waves must be utilized, such as explosives or air guns.

 

Seismic surveying in transition zones and on the sea-bed is carried out by laying cables or other stationary measuring devices on the ocean floor. Ocean-bottom cables allow seismic surveys to be conducted in areas not accessible to marine vessels, such as shallow water or the area around drilling platforms. Ocean-bottom cables also provide high quality seismic data because they are in direct contact with the ocean floor.

 

Land seismic crews are equipped with advanced proprietary equipment and software used in each stage of the land seismic acquisition process, including:

 

 

We believe that our proprietary equipment and software enable us to offer high quality, fully integrated land seismic services. We have pioneered real-time positioning of geophones and seismic sources, quality control of positioning during land surveys, and on-site processing, which together increase the accuracy and efficiency of such surveys.

 

One of the challenges inherent in land acquisition surveys is gathering data without disrupting the sensitive ecosystems in which such surveys are frequently located. We have developed a strong position in environmentally sensitive zones, such as mountainous regions, tropical forests and swamps, by following a strict policy of preserving the natural environment to the extent possible. We have designed shallow draft boats and ultra-light drilling equipment to facilitate operations in such sensitive zones. This equipment can be transferred safely and rapidly from one area to another. We also work in conjunction with the local community at site locations, hiring local employees and obtaining necessary local authorizations to alleviate potential opposition to our operations.

 

The difficulty of access to survey sites is a major factor in determining the number of personnel required to carry out a survey and the cost of a survey. Fully staffed land or transition zone areas range in size from 40 to 3,000 members (principally composed of local employees in the latter case), and the cost of a survey can range from several hundred thousand to several million dollars per month, depending on the size of the team and the type and difficulty of the study.

 

We work closely with our clients to plan surveys in accordance with their specifications. This provides us with a competitive advantage in being selected to carry out surveys, whether such surveys are awarded based on competitive bids or directly negotiated agreements with clients. We regularly conduct land acquisition surveys for national and international oil companies.

 

We have developed partnerships with local seismic acquisition companies in several countries (Kazakhstan, Indonesia and Libya). We bring to these partnerships our international expertise, technical know-how, equipment and experienced key personnel as needed, while local partners provide their logistical resources, equipment and knowledge of the environment and local market.

 

In Saudi Arabia, our land seismic acquisition activities are conducted through Arabian Geophysical & Surveying Co. (“Argas”), a joint venture owned 49% by us and 51% by TAQA, our local partner.

 

On June 24, 2006, CGG signed a shareholders’ agreement with TAQA. Under this agreement, TAQA acquired 49% of the capital of CGG Ardiseis, a newly formed CGG subsidiary dedicated to land and shallow water seismic

data acquisition in the Middle East. We hold the remaining 51%. Under the agreement, CGG Ardiseis activities in the Gulf Cooperation Council countries will be exclusively operated by Argas.

 

  Veritas Land Acquisition Activity

 

Veritas’ land operations include surveying crews, which lay out the lines to be recorded and mark the sites for shot-hole placement or equipment location, and recording crews, which use explosive or mechanical vibrating units to produce acoustic impulses and use recording units to synchronize the shooting and capture of the seismic signals via geophones. On a land survey where explosives are used, the recording crew is supported by several drill crews, which are typically furnished by third parties under short-term contracts. Drill crews operate in advance of the recording crew and bore shallow holes for explosive charges which, when detonated by the recording crew, produce the necessary acoustic impulse.

 

  CGG Veritas Land Acquisition Business Development Strategy

 

CGG’s and Veritas’ respective offerings for land acquisition services represent strong geographical and technological complementarities for high-end positioning and further development of local partnerships. We have developed partnerships with local seismic acquisition companies in several countries, including Saudi Arabia, Indonesia and Libya. We bring to these partnerships our international expertise, technical know-how, equipment and experienced key personnel as needed, while local partners provide their logistical resources, equipment and knowledge of the environment and local market. Our strategy for the land acquisition business line is to:

 

 

Offshore Business Line

 

  Offshore Seismic Acquisition

 

We provide a full range of 3D marine seismic services, principally in the Gulf of Mexico, the North Sea and off the coasts of West Africa and Brazil, as well as in the Asia-Pacific region.

 

Marine seismic surveys are conducted through the deployment of submersible cables (streamers) and acoustic sources (airguns) from marine vessels. Such streamers are each up to 10 kilometers long and carry hydrophone groups normally spaced 12.5 meters apart along the length of the streamer. The recording capacity of a vessel is dependent upon the number of streamers it tows and the number of acoustic sources it carries, as well as the configuration of its data recording system. By increasing the number of streamers and acoustic sources used, a marine seismic operator can perform large surveys more rapidly and efficiently.

 

We undertake both exclusive and multi-client marine surveys. When we acquire marine seismic data on an exclusive basis, the customer contracts to pay for and directs the scope and extent of the survey and retains ownership of the data obtained. In regions where there is extensive petroleum exploration, such as Brazil, the Gulf of Mexico, West Africa, the Mediterranean Sea and the North Sea, we also undertake multi-client surveys, in which we fund the survey ourselves and retain ownership of the seismic data. This enables us to provide multiple companies access to the data by way of license. As a result, we have the potential to obtain multiple and higher

revenues, while our customers who license the data have the opportunity to pay lower prices. The capacity to both acquire and process marine seismic data is an important element of our overall strategy to maintain and develop our leading position in marine seismic data acquisition and processing.

 

Offshore activities accounted for 40% of CGG’s consolidated operating revenue and 49% of Veritas’ consolidated revenues for the years ended December 31, 2006 and July 31, 2006, respectively.

 

Multi-client surveys accounted for 42% of CGG’s offshore operating revenue in 2005 and 39% in 2006. Multi-client surveys accounted for 60% and 61%, of Veritas’ marine revenues in the fiscal year ended July 31, 2006, and the three months ended October 31, 2006, respectively.

 

  CGG Offshore Acquisition Activity

 

CGG provides marine seismic services to the global oil and gas industry with a focus on towed seismic data acquisition, multi-client seismic services and “4C/4D” seabed operations. CGG expanded its offshore capabilities substantially in September 2005, with the acquisition of Exploration Resources, a Norwegian provider of marine seismic acquisition services.

 

Each of the six seismic acquisition vessels CGG operated prior to the Exploration Resources acquisition are equipped with modern integrated equipment and software and has the capacity to conduct 3D surveys. The vessels can deploy between six and 10 streamers up to 10 kilometers long and are equipped with on board processing capability. In September 2005, CGG expanded its capacity from five seismic vessels to six with a technological upgrade of one of the source vessels, the Laurentian, into a 3D seismic vessel. Of these six vessels, we own two, operate two under renewable time charters with Louis Dreyfus Armateurs (“LDA”), one of the largest ship-owners in France, operate one under time charter indirectly in partnership with LDA, and operate one under time charter with Tech Marine International Ltd. (“TMI”). Time charters allow us to change vessels in order to keep pace with market developments and provide us with the security of continued access to vessels without the significant investment required for ownership. LDA and TMI also supply crews for the three vessels each (other than persons directly involved in seismic data acquisition and ship management).

 

Marine seismic acquisition requires advanced navigation equipment for positioning vessels, acoustic sources and streamers and specialized techniques for safe and rapid deployment and retrieval of acoustic sources and streamers. Most of the vessels we operate are fitted with a full complement of modern integrated equipment and software, including onboard computer equipment running our GeovecteurPlus software, used to process seismic data.

 

Through Exploration Resources, we own three seismic vessels equipped for 2D studies (Princess, Duke and Venturer) and two vessels equipped for 3D studies (C-Orion and Search). In addition, Exploration Resources charters the Geo Challenger, converted to 3D, on a long-term basis and the Pacific Titan, a vessel equipped for 2D studies, on a short-term basis.

 

The C-Orion was launched as a 3D vessel with 8 streamers in early 2006 and the Geo Challenger was converted to a 3D vessel with twelve streamers during the first half of 2006, increasing to nine the number of CGG vessels with 3D capability. The four remaining 2D vessels are used for 2D surveys or, where possible, as source vessels for more complex operations, which have higher margins, such as for 4D, high-resolution, and wide azimuth. Rieber Shipping AS, one of the largest ship managers in Norway, undertakes the ship management of the Exploration Resources fleet.

 

The additional vessels from Exploration Resources and Veritas increase our fleet management flexibility considerably. For instance, when demand for exclusive surveys increases (as is currently the case), we are able to meet demand while continuing to devote a portion of our fleet to enhancing our multi-client library. With more vessels, we also increase our geographical coverage and can minimize unproductive time by reducing vessels’ transit between areas of operation.

 

The following table provides certain information concerning the 3D seismic vessels operated by CGG during 2006 but does not include the vessels operated by Veritas, which are set out under “Veritas Marine Acquisition Activity” below.

 

 

 

Notes:

 

 

Seabed

 

Our subsidiary Multiwave is a Norwegian seismic company specializing in seabed seismic operations and electromagnetic seabed logging (“EM SBL”). Seabed seismic generally is a more recent process than towed seismic and generally does not compete with towed seismic. Seabed seismic operations are most often used in areas where conventional streamer acquisition is impossible. The method can also be more effective in certain types of seismic applications, such as the monitoring of existing production fields to optimize reservoir recovery rates. Seabed seismic collection is based on laying recording cables on the seabed either permanently or as a mobile system that can be re-used in other areas. The data collection may take place through multiple components (3C) adapted to seabed environments, resulting in greater accuracy than conventional towed seismic, or through permanent systems that permit continuous monitoring over time (4C/4D).

 

The market for seabed services is still developing, and we have until now had limited experience in it. With Exploration Resources, however, we have obtained strong know-how and experience in the fields of seabed seismic. We will continue to offer these services under the Multiwave name.

 

Multi-client Library

 

Exclusive contract surveys generally provide for us to be paid a fixed fee per square kilometer of data acquired. When we acquire marine seismic data on an exclusive basis, the customer directs the scope and extent of the survey and retains ownership of the data obtained. In regions where there is extensive petroleum exploration, such as Brazil, the Gulf of Mexico, West Africa, the Mediterranean Sea and the North Sea, we also undertake multi-client (or non-exclusive) surveys whereby we retain ownership of the seismic data. This enables us to provide multiple companies access to the data by way of license. As a result, we have the potential to obtain multiple and higher revenues, while our customers who license the data have the opportunity to pay lower prices.

 

Our policy is generally to require a minimum share of the estimated cost of each multi-client survey to be covered by pre-commitments from clients prior to commencement. We treat these multi-client projects as investments. In determining whether to undertake multi-client surveys, we consider factors that include the availability of initial participants to underwrite a share of the costs to acquire such data, the location to be surveyed, the probability and timing of any future lease concessions and development activity in the area and the availability,

quality and price of competing data. Once the surveys are completed, our customers may license the resulting data through “after-sales”.

 

Non-exclusive survey production accounted for approximately 20% of our fleet utilization in 2006 up from 5% in 2005 and 5% in 2004, a result of sharply increased demand for exclusive surveys in 2004 and inadequate fleet capacity. See “Item 3: Key Information — Risk Factors — Risks Related to Our Business — We invest significant amounts of money in acquiring and processing seismic data for multi-client surveys and for our data library without knowing precisely how much of the data we will be able to sell or when and at what price we will be able to sell the data.” Within the multi-client survey market, pre-commitment level have increased in 2006 while well positioned multi-clients benefited from increased customer interest. For each year since 2002, our multi-client revenues (both pre-commitments and after-sales) have exceeded our investments in our multi-client library.

 

  Veritas Marine Acquisition Activity

 

Veritas’ marine acquisition crews operate from chartered vessels that have been modified or equipped to its specifications. All of the vessels utilized are equipped to perform both 2D and 3D geophysical surveys. During the last several years, the majority of the marine geophysical data acquisition services performed by Veritas involved 3D surveys. The following table contains certain information concerning the geophysical vessels operated by Veritas as at July 31, 2006.

 

 

During July 2006, Veritas chartered the Veritas Voyager to replace the Veritas Searcher sold by Veritas in August 2006.

 

Each vessel is equipped with geophysical recording instrumentation, digital geophysical streamer cable, cable location and geophysical data location systems, multiple navigation systems, and a source control system that controls the synchronization of the energy source and a firing system that generates the acoustic impulses. Streamer cables contain hydrophones that receive the acoustic impulses reflected by variations in the subsurface strata.

 

As at October 31, 2006, five of Veritas’ vessels are equipped with multiple streamers and multiple energy sources. These vessels acquire more lines of data with each pass, which reduces completion time and the acquisition cost. The Veritas Viking, Veritas Viking II and the Veritas Vantage are each capable of deploying 12 streamers simultaneously, although each is currently equipped to tow eight. The Veritas Viking, Veritas Viking II, Veritas Vantage and Veritas Voyager are equipped with solid streamers that offer numerous advantages over fluid-filled streamers. The solid streamers allow these vessels to work in rougher seas and record more desirable frequencies with less noise and less downtime than is possible with fluid-filled streamers.

 

In March 2006, Veritas entered into an agreement with a third party ship owner to charter a vessel currently known as the Veritas Vision, which is currently being converted for seismic operations. The term of the charter is for a period of eight years fixed, with options of up to 10 more years. When delivered in the second quarter of 2007, the Veritas Vision will be the seventh seismic vessel in the Veritas fleet. In addition to the charter, Veritas expects to invest approximately U.S.$62 million to equip the vessel for seismic operations.

 

In September 2006, Veritas entered into a letter of intent to charter a seismic vessel, currently known as the Viking Poseidon, which is currently expected to be in service commencing in the third calendar quarter of 2007. This vessel will serve as a replacement for the Seisquest vessel, which is under a charter that expires in May 2007.

 

Veritas has also entered into a commitment to purchase U.S.$26 million of recording equipment to upgrade a vessel in its existing fleet.

 

  CGG Veritas Marine Acquisition Business Development Strategy

 

The addition of Veritas’ fleet of seven vessels creates a combined seismic services business operating the world’s leading seismic fleet of 20 vessels, including 14 high capacity 3D vessels. We believe that the capacity increase places us in the first tier of offshore seismic services companies, together with Western Geco and PGS.

 

We believe that marine seismic services constitute one of the essential pillars of a firm presence in the seismic sector and therefore want to maintain a strong position in both the 3D and 2D marine segments in exclusive multi-clients surveys. Historically, 2D was typically limited to pre-exploration efforts, as clients wished to have a rudimentary 2D image of an entire area in order to rapidly identify zones that justified 3D imaging. The possession of a mixed 2D/3D fleet thus becomes a strategic advantage and an essential factor in a company’s credibility with oil company clients.

 

With Multiwave, we have a significant expertise in the seabed segment, which we believe is in the early stages of development. Multiwave has in recent years developed recognized experience in the engineering and operational management of highly technical projects in the emerging field of subsea geophysics, both seismic and electro-magnetic, covering both the use of permanent instrumentation in production fields and the more traditional method of using recoverable instruments to perform a study.

 

We intend to take advantage of the complementary, recent vintage, well positioned combined seismic data libraries of CGG and Veritas. For example, in the Gulf of Mexico, Veritas’ data library is positioned in the Western and Central Gulf while CGG’s data library is in the Central and Eastern Gulf. Data merging from both libraries will provide potential for cross imaging enhancement and value creation by applying the latest processing software development to achieve an optimal image. Our combined library is a strength in a market where a global library portfolio is increasingly attractive to clients.

 

Processing & Reservoir Business Line

 

  Processing and Reservoir

 

Seismic data processing operations transform seismic data acquired in the field into 2D cross-sections, or 3D images of the earth’s subsurface or 4D time-lapse seismic data using Geocluster and Hampson-Russell software, our proprietary seismic software, or third party applications. These images are then interpreted by geophysicists and geologists for use by oil and gas companies in evaluating prospective areas, selecting drilling sites and managing producing reservoirs.

 

CGG provides seismic data processing and reservoir services through its network of 30 data processing centers and reservoir teams located around the world. Revenues from CGG Processing & Reservoir SBU accounted for approximately 10% of CGG’s revenues in 2006 and 13% in 2005.

 

Processing and reservoir activities accounted for 14% of Veritas’ consolidated revenues for the years ended July 31, 2006.

 

  CGG Data Processing Activity

 

We process seismic data acquired by our land and marine acquisition crews as well as seismic data acquired by non-affiliated third parties. Marine seismic data has been a significant source of the growth in demand for our data processing services and represents over two-thirds of the operating revenues generated in our processing centers. In addition, we reprocess previously processed data using new techniques to improve the quality of seismic images.

 

We complement our network of international centers with regional multi-client centers and dedicated centers that bring processing facilities within our clients’ premises. Fifteen of our data processing centers are “dedicated” centers that are located in clients’ offices. We believe that these dedicated centers are responsive to the trend among oil and gas companies to outsource processing work. They also allow us to provide clients with a high level of service. These centers enable our geoscientists to work directly with clients and tailor our services to meet individual clients’ needs.

 

We also operate four visualization centers that allow teams of our customers’ geoscientists and engineers to view and interpret large volumes of 3D data.

 

Beyond conventional processing and reprocessing, we are also increasingly involved in reservoir-applied geophysics, an activity that encompasses large integrated reservoir studies from reprocessing to full reservoir simulation. It also includes advanced technology studies such as reservoir characterization, stratigraphic inversion and stochastic reservoir modeling. In 2001, we were awarded contracts to operate dedicated 4D processing centers for BP and Shell. These contracts have been regularly extended since then.

 

While our reservoir teams mainly operate from Houston (covering South American projects), London and Massy, France, we also provide seismic data processing (conventional and reservoir-oriented) services through a large network of international and regional data processing centers located around the world. We operate six international processing centers located in Massy, London, Oslo, Houston, Kuala Lumpur and Calgary. Five of these centers are linked by high-speed fiber optic connections, and all of our centers have access to powerful high-performance computers.

 

The deployment of new technologies developed by our research and development teams and improved project management methods have increased our efficiency in time and depth migrations. The expertise in 4D that we acquired in the North Sea, in particular through our 4D dedicated centers in Aberdeen, has now been exported to the Gulf of Mexico, where this activity is growing.

 

Our geographical presence was strengthened in Southeast Asia with the opening of the Kuala Lumpur hub in 2004, equipped with new computer facilities, which is becoming one of our major regional hubs, and is enabling us to increase our reach throughout the Asia-Pacific region.

 

Each of the principal computers used at our centers is leased for a period of approximately two years, permitting us to upgrade to more advanced equipment at the time of renewal. In 2006, we had an average real-time computer capacity representing more than 150 teraflops, compared to approximately 65 in 2005, 40 in 2004, 30 in 2003 and approximately 15 in 2002. Our delivery time has decreased in recent years, enabling delivery of data to clients within the same timeframe as work performed directly onboard marine vessels.

 

  Veritas Data Processing Activity

 

Veritas operates several data processing centers capable of processing 2D and 3D data. Most of its data processing services are performed on 3D seismic data. The centers process data received from the field, both from Veritas’ own crews and from other geophysical companies, to produce an image of the earth’s subsurface using proprietary computer software and techniques. Veritas also reprocesses older geophysical data using new techniques designed to enhance the quality of the data. Veritas’ first data processing center opened in 1966, and it now has centers in all of its geographic locations.

 

Veritas’ processing centers operate high capacity, advanced technology data processing systems on high-speed cluster CPUs. These systems run Veritas’ proprietary data processing software. The marine and land data acquisition crews have software compatible with that utilized in the processing centers, allowing for ease in the movement of data from the field to the data processing centers. Veritas’ centers can generally process both land and marine data and it tailors the equipment and software deployed in an area to meet the local market demands.

 

Veritas operates visualization centers in Houston, Calgary, Perth, and Crawley. These four centers allow teams of Veritas’ customers’ geoscientists and engineers to view and interpret large volumes of complex 3D data. The visualization centers have imaging tools used for advanced interpretive techniques that enhance the understanding of regional as well as detailed reservoir geology. These visualization centers allow Veritas to offer its expertise combined with the type of collaborative geophysical model building that is enabling oil companies to explore areas of complex geology such as the large sub-salt plays in the deepwater Gulf of Mexico.

 

Veritas has groups of scientists available to perform advanced geophysical and geological interpretation on a contract basis. These experts work around the world, using third party and Veritas’ proprietary software to create subsurface models for its clients and advise its clients on how best to exploit their reservoirs. Their work is related to

exploration as well as production activities. Additionally, Veritas licenses its proprietary Hampson-Russell software to companies desiring to do their own geophysical interpretation.

 

  CGG Veritas Data Processing Business Development Strategy

 

CGG’s and Veritas’ respective positions in data processing and imaging as well as the skills and reputation of their experts and geoscientists, allow us to create the industry reference in this segment, with particular strengths in advanced technologies such as depth imaging, 4D processing and reservoir characterization as well as a close link with clients through dedicated centers;

 

Our strategy for the Processing & Reservoir product line is to:

 

 

Products

 

We conduct our equipment development and production operations through Sercel and its subsidiaries. We believe Sercel is the market leader in the development and production of seismic acquisition systems and specialized equipment in the land and offshore seismic markets. Sercel is operated as an independent division and makes most of its sales to purchasers other than CGG. Sercel currently operates eight seismic equipment manufacturing facilities, located in Nantes and Saint Gaudens in France, Houston, Sydney, Singapore, Alfreton in England, Larbert in Scotland and Calgary. In China, Sercel operates its activities through Sercel-JunFeng Geophysical Equipment Co Ltd, based in Hebei (China), in which Sercel acquired a 51% stake in the capital in 2004 and through Xian-Sercel a manufacturing joint venture with BGP, in which Sercel holds a 40% interest. In addition, two sites in Massy and Brest (France) are dedicated to borehole tools and submarine acoustic instrumentation, respectively.

 

Revenues from CGG’s Products segment accounted for approximately 36% and 40% of CGG’s consolidated operating revenues in 2005 and 2006, respectively.

 

  Products Activity

 

Sercel offers and supports worldwide a complete range of geophysical equipment for seismic data acquisition, including seismic recording equipment and seismic sources, and provides its clients with integrated solutions. Sercel’s principal product line is seismic recording equipment, particularly the 408UL 24-bit recording systems.

 

In November 1999, Sercel launched the 408UL seismic data recording system, the 408UL. The 408UL offers greater operating flexibility than any other previous generation system due to:

 

 

The 408UL is one of the industry’s most advanced systems, and at the end of the year 2005, the installed base reached more than 1 million channels. Sercel, seeking to provide users with systems well-adapted to various

environments, developed the 408UL system on the basis of an upgradeable architecture. In 2002, Sercel expanded its family of 408UL products with the ULS version for transition zone environment and in 2003 with the digital sensor unit (DSU) featuring three component digital sensors based on the MicroElectroMechanicalSystem (MEMS). In November 2005, at the Society of Exploration Geophysicists convention in Houston, Sercel announced the launch of 428 XL, the new generation of land seismic acquisition systems. The 428 XL offers enhanced possibilities in high density and multi-component land acquisition. Sercel enhanced its product range in September 2006 by acquiring Vibration Technology Ltd., a Scottish company specialized in wireless acquisition systems.

 

Sercel is also a market leader for vibroseismic vehicles. Sercel’s latest vibrators, called Nomad, offer high reliability and unique ergonomic features. Nomad is available with either normal tires or a tracked drive system. The track drive system allows Nomad vibrators to operate in terrain not accessible to vehicles with tires. In sand dunes or arctic conditions this can improve crew productivity. During the geophysical European congress held in Paris, France on June 2004, Sercel launched the Nomad 90, which is capable of exerting a peak force 90,000 pounds.

 

In addition to recording systems, Sercel develops and produces a complete range of geophysical equipment for seismic data acquisition and other ancillary geophysical products as a result of the acquisition of Mark Products in September 2000, which specialized in the manufacture of geophones, cables and connectors. The acquisition of a 51% stake in Sercel-JunFeng Geophysical Equipment Co Ltd, based in Hebei, China, in January 2004 reinforced our manufacturing capabilities for geophone, cables and connectors, as well as our presence on the Chinese seismic market.

 

The Seal, our marine seismic data recording system, capitalizes on the 408 architecture and on our many years of experience in streamer manufacturing. The Seal is the currently sole system with integrated electronics. Sercel has recently developed, among other products, an innovative solid streamer cable for marine seismic data acquisition that is designed to reduce downtime due to adverse weather conditions and thereby increase data acquisition productivity. Sercel has also expanded its marine product range with ocean- bottom cable. In November 2005, Sercel launched the Sentinel solid streamer, a new product in its Seal line that is the outcome of the technological synergies realized in recent acquisitions. Sercel has already delivered over 3,000 new Sentinel cables.

 

Sercel significantly expanded its product range and increased its market share in the seismic equipment industry with the acquisitions of GeoScience Corporation in December 1999, Mark Product in 2000 and continued its expansion in 2003 and 2004. In October 2003, Sercel acquired Sodera S.A., a leading provider of air gun sources used mainly in marine seismic data acquisition. In January 2004, Sercel acquired a division of Thales Underwater Systems Pty Ltd. that develops and manufactures surface marine seismic acquisition systems, particularly solid streamers, and seabed marine seismic acquisition systems. Both Thales’ seismic equipment business and Sercel-JunFeng have been consolidated within the CGG group from January 2004. In addition, through the acquisitions of Createch and Orca in 2004, Sercel is continuing its expansion while strengthening its position in two areas with perceived growth potential: sea-floor seismic systems and borehole seismic tools.

 

As a result of these acquisitions, Sercel is a market leader in the development and production of both marine and land geophysical equipment. It is a global provider for the seismic acquisition industry with a balanced industrial position in terms of both product range and geographical presence.

 

  Products Business Development Strategy

 

Our strategy for the Products segment is to:

 

 

Seasonality

 

Our land and marine seismic acquisition activities are seasonal in nature. We generally experience decreased revenues in the first quarter of each year due to the effects of weather conditions in the Northern Hemisphere and to the fact that our principal clients are generally not prepared to fully commit their annual exploration budget to specific projects during that period.

 

We have historically experienced higher levels of activity in our equipment manufacturing operations in the fourth quarter as our clients seek to fully deploy annual budgeted capital.

 

Intellectual Property

 

We continually seek the most effective and appropriate protection for our products, processes and software and, as a general rule, will file for patent, copyright or other statutory protection whenever possible. Our patents, trademarks, service marks, copyrights, licenses and technical information collectively represent a material asset to our business. However, no single patent, trademark, copyright, license or piece of technical information is of material importance to our business when taken as a whole. As of December 31, 2006, we held 145 patents in respect of different products and processes worldwide. The duration of these patents varies from four to 20 years, depending upon the date filed and the duration of protection granted by each country.

 

Competition

 

  General

 

Most contracts are obtained through a competitive bidding process, which is standard for the industry in which we operate. Important factors in awarding contracts include service quality, technological capacity, performance, reputation, experience of personnel, customer relations and long-standing relationships, as well as price. While no single company competes with us in all of our segments, we are subject to intense competition with respect to each of our segments. We compete with large, international companies as well as smaller, local companies. In addition, we compete with major service providers and government-sponsored enterprises and affiliates. Some of our competitors operate more data acquisition crews than we do and have substantially greater financial and other resources.

 

  Land

 

The land seismic market is extremely fragmented and characterized by intense price competition. The entrance of a significant number of Chinese competitors seeking to expand their international market share beginning in 2000 has driven down prices in this sector and decreased the market share of established participants. In addition, certain very active services markets, such as China and Russia, are not practically accessible to international services providers like us. The most significant service providers in land are Western Geco and BGP. We believe that price is the principal basis of competition in this market, although relationships with local service providers are important, as is experience in unusual terrain. Volume in the land seismic market increased by almost 20% in 2006 with a positive, but moderate, impact on market prices.

 

  Offshore

 

The offshore sector has four leading participants: Western Geco, PGS, CGG Veritas and Fugro. From 1999 to mid-2004, the offshore market experienced excess supply, which put downward pressure on prices. Because of the high fixed costs in this sector, excess supply has not been reduced by operators but rather channeled into multi-client libraries. With supply flat since 2003, however, and demand increasing gradually until mid-2004 and then more rapidly, prices have recovered significantly in this market. The market upturn was confirmed in the second half of 2005 with a continuous increase of exclusive volumes and sales from the multi-client existing libraries. The offshore market increase by more than 40% in 2006 including a 20% positive impact on market price.

 

  Processing

 

The processing sector is led by Western Geco and CGG Veritas. This market is characterized by greater client loyalty than the acquisition sector, as evidenced by the presence of processing centers on client premises. Processing capacity has multiplied in recent years as a result of improvements in computing technology. This increase in computing power has allowed improved processing and the use of more complex and accurate algorithms. Processing market increased by 15% in 2006.

 

  Products

 

Our principal competitor for the manufacture of seismic survey equipment is Input/Output Inc. The market for seismic survey equipment is highly competitive and is characterized by continual and rapid technological change. We believe that technology is the principal basis for competition in this market, as oil and gas companies have increasingly demanded new equipment for activities such as reservoir management and data acquisition in difficult terrain. Oil and gas companies have also become more demanding with regard to the quality of data acquired. Other competitive factors include price and customer support services. The volume of sales in the seismic equipment market increased by 50% in 2006, driven by the offshore seismic equipment market and the need to equip new vessels.

 

Organizational Structure

 

We are the parent company of the CGG Veritas group. Our principal subsidiaries are as follows:

 

 

Property, Plant and Equipment

 

The following table sets forth certain information relating to the principal properties of CGG Veritas group :

 

 

 

We also lease other offices worldwide to support our operations. We believe that our existing facilities are adequate to meet our current requirements.

 

Information concerning our seismic vessels is set out under “Offshore Business Line” above.

 

Environmental Matters and Safety

 

Our operations are subject to a variety of laws and regulations relating to environmental protection. We invest financial and managerial resources to comply with such laws and regulations. Although such expenditures historically have not been material to us, and we believe that we are in compliance in all material respects with applicable environmental laws and regulations, the fact that such laws and regulations are changed frequently prevents us from predicting the cost of impact of such laws and regulations on our future operations. We are not involved in any legal proceedings concerning environmental matters and are not aware of any claims or potential liability concerning environmental matters that could have a material adverse impact on our business or consolidated financial condition.

 

Efforts to improve safety and environmental performance over the last few years continued as some procedures were strengthened and others implemented to increase awareness among personnel and subcontractors, including obligatory regular meetings in the field and onboard. A comprehensive Health, Safety and Environment management system, placing particular emphasis on risk management, has been established to cover all activities and is being continuously adapted for each segment.

 

Legal Proceedings

 

From time to time we are involved in legal proceedings arising in the normal course of its business. We do not expect that any of these proceedings, either individually or in the aggregate, will result in a material adverse effect on its consolidated financial condition or results of operations.

 

On September 29, 2006, CGG, CGG’s subsidiary CGG Services SA and five directors and officers of these entities were named as defendants in a lawsuit brought by one of the main labor unions representing CGG employees for violation of French labor laws. The case relates to the employment by CGG and CGG Services SA of international staff by a non-French subsidiary of CGG. Procedural hearings were held in December 2006, and a hearing on the merits of the case will not take place before the third quarter of 2007. CGG is contesting this claim vigorously and does not expect it to have a material adverse affect on its financial position or profitability.

 

On October 20, 2006, a complaint was filed against our subsidiary, Sercel Inc., in the United States District Court for the Eastern District of Texas. The complaint alleges that several of Sercel Inc.’s seismic data acquisition products infringe a U.S. patent allegedly owned by the plaintiffs. The plaintiffs have requested a permanent injunction prohibiting Sercel Inc. from making, using, selling, offering for sale or importing the equipment in question into the United States and have sought an unspecified amount of damages. Sercel is confident that the products in question do not infringe any valid claims of the patent at issue and intends to contest this claim vigorously. While we do not believe this litigation will have a material adverse effect on our financial position or profitability, the complaint provides limited information, and the lawsuit is in its early stages.

 

Introduction

 

We divide our businesses into two segments, geophysical services and geophysical products (seismic data acquisition equipment produced by our Sercel subsidiaries).

 

We organize our geophysical services business development into two geographical areas: the Western hemisphere, which includes the Americas and the Eastern hemisphere, which includes Europe, Eastern European countries, Africa and Asia-Pacific. Until the merger with Veritas on January 12, 2007, we also divided services into three strategic business units, or SBUs:

 

 

Our Products segment, which we conduct through Sercel Holding S.A. and its subsidiaries, is made up of our manufacturing and sales activities for seismic data acquisition equipment, both on land and offshore.

 

Following the merger, we intend to continue CGG’s current segmentation between geophysical services and products, and to organize our services business both into geographical operating segments for the western and eastern hemispheres, and into the following business lines:

 

 

Operating Results

 

The following operating and financial review and prospects should be read in conjunction with our consolidated annual financial statements and the notes thereto included elsewhere in this annual report, which have been prepared in accordance with IFRS.

 

We adopted IFRS as our primary accounting principles from January 1, 2005, and our first consolidated financial statements under IFRS were those for the year ended December 31, 2005. They include comparative information for the year ended December 31, 2004 using IFRS as used as of and for the year ended December 31, 2005.

 

International Financial Reporting Standards differ in certain significant respects from U.S. GAAP. Note 32 (“Reconciliation to U.S. GAAP”) to our consolidated annual financial statements describes the principal differences between IFRS and U.S. GAAP as they relate to us, and reconciles net income and shareholders’ equity to U.S. GAAP as of and for the period ended December 31, 2006, 2005 and 2004.

 

The discussion of our financial condition and results of operations as of and for the years ended December 31, 2006, 2005 and 2004 is for CGG only and such financial condition and results of operations are not directly comparable to those of CGGVeritas after the merger.

 

Factors affecting our results of operations

 

  Market Environment

 

  Geophysical

 

Overall demand for geophysical services and equipment is dependent upon spending by oil and gas companies for exploration, production, development and field management activities. We believe the level of spending by those companies depends on their perception of their ability to efficiently supply, the oil and gas market in the future. Our analysis is that such a perception is primarily driven by the relationship between their proven future hydrocarbon reserve assets and the expected future energy consumption.

 

The geophysical market experienced significant fluctuations in the past, with notably a trough in 1999 following a sharp drop in the price of oil to U.S.$10 per barrel. We believe that many factors contribute to the volatility of this market, such as the geopolitical uncertainties that can harm the confidence and visibility that are essential to our clients’ long-term decision-making processes, the expected balance in the mid to long term between the supply and demand for hydrocarbons, and the ability of the geophysical service providers to respond variation in demand for seismic services.

 

For the last three years the geophysical market has been enjoying a sustained growth, recovering from a previous period of under-investment. We believe this growth is based on the following solid fundamentals:

 

 

Our strong belief that the industry should consolidate led us to merge with Veritas DGC, Inc on January 12, 2007 as described below under the heading “Acquisitions and disposals”.

 

  Foreign Exchange Fluctuations

 

As a company that derives a substantial amount of its revenue from sales internationally, our results of operations are affected by fluctuations in currency exchange rates. In order to present trends in our business that may be obscured by currency fluctuations, we have translated certain euro amounts in this Operating and Financial Review and Prospects into U.S. dollars. See also “Trend Information — Currency Fluctuations”.

 

  Change in scope of Offshore activities

 

We expanded the capacity of our Offshore SBU fleet from five seismic acquisition vessels and one source vessel during the first eight months of the 2005 to thirteen seismic acquisition vessels during 2006. Our capacity expansion included:

 

 

During the six months ended June 30, 2006, the Princess, Duke and Venturer 2D vessels operated principally under a strategic alliance between Exploration Resources and a subsidiary of Fugro N.V. prior to our acquisition of Exploration Resources and have entered our fleet only progressively since then.

 

  Acquisitions and disposals

 

Acquisitions and disposals have a significant impact on our revenue from one year to the next. Recent acquisitions and disposals have included:

 

  During 2005

 

 

On February 14, 2005, we ended our cooperation agreements with PT Alico, an Indonesian company. On that date, PT Alico, which was fully consolidated in our accounts until 2004 as a consequence of our contractual relationship with them, was excluded from our scope of consolidation. Under our agreements with PT Alico, we indemnified them against certain specific risks. This liability is limited and was accrued in our financial statements as of December 31, 2004. The liability expired on June 30, 2006, since then we have no further commitment to PT Alico or its shareholders.

 

 

On July 27, 2005, we established a new company in Russia, CGG Vostok, which will undertake seismic services. CGG Vostok has been part of our consolidated group from the date of its creation.

 

 

On August 29, 2005, we acquired a controlling stake of approximately 60% of Exploration Resources ASA (“Exploration Resources”), a Norwegian provider of marine seismic acquisition services (see further description in Item 4). The total cost to us of the acquisition was €303.3 million, including €8.6 million related to acquisition fees and including the price of the shares acquired in October 2005. The reassessment of Exploration Resources’ net assets, along with our evaluation of the seismic business’s economic prospects, led us primarily to increase the book value of the vessels (by €116.5 million at September 1, 2005) and to record corresponding deferred tax liabilities. The vessels were valued using combined valuation methods and, particularly, the present value of cash flows that we expect the vessels to generate. We have included Exploration Resources in our consolidated financial statements from September 1, 2005.

 

 

 

On June 24, 2006, Industrialization & Energy Services Company (TAQA), our long term Saudi Partner in Argas (Arabian Geophysical and Surveying Company), acquired, for €16.8 million, 49% of the capital of CGG Ardiseis, a newly formed CGG subsidiary dedicated to land and shallow water seismic data acquisition in the Middle East, and we maintained a 51% interest. CGG Ardiseis, whose headquarters are located in Dubai, provides its clients with the complete range of CGG land and shallow water acquisition services, focusing on Eye-D, the latest CGG technology for full 3D seismic imaging. As part of our agreement with TAQA, CGG Ardiseis activities in the Gulf Cooperation Council countries are operated by Argas.

 

 

On July 10, 2006, Sercel acquired a 20% interest (17% of voting rights) in the French company Cybernetix, a specialist in robotics, with the aim of strengthening our technical partnership with Cybernetix in offshore oil equipment, and an additional 1% interest by the end of the year 2006. The total consideration for the transactions was €4.0 million.

 

 

On September 28, 2006, Sercel acquired the Scottish company Vibration Technologies Limited (“Vibtech”), a pioneer in the use of advanced wireless technologies for seismic recording. The cash consideration of the transaction amounted to €49.5 million (£33.3 million) and a preliminary valuation of goodwill is of €36.3 million.

 

 

 

On September 4, 2006, CGG entered into a definitive merger agreement with Veritas to acquire Veritas in a part cash, part stock transaction. The merger was completed on January 12, 2007 upon satisfaction of the closing conditions of the merger agreement.

 

At the merger closing date, and according to the formula set out in the merger agreement, the per share cash consideration to holders of Veritas stock was $85.50 and the per share stock consideration was 2.0097 CGG Veritas ADSs upon the election of Veritas’ shareholders. Of the 40,420,483 shares of Veritas common stock outstanding as of the merger date (January 12, 2007), approximately:

 

 

Stockholders electing cash received, on average, 0.9446 CGG Veritas ADSs and $45.32 in cash per share of Veritas common stock. Stockholders electing ADSs and stockholders making no valid election received 2.0097 CGG Veritas ADSs per share of Veritas common stock. In aggregate, approximately $1.5 billion and approximately 46.1 million CGG Veritas ADSs were paid to Veritas stockholders as merger consideration. Based on a valuation of CGG Veritas’s ADS at U.S.$40.50, the total consideration of the merger amounts to approximately U.S.$3.5 billion.

 

The combination of CGG and Veritas creates a strong global pure play seismic company, offering a broad range of seismic services, and geophysical equipment, through Sercel, to the industry across all markets. The combined seismic services operate the world’s leading seismic fleet with 20 vessels, including 14 high capacity 3D vessels, and land crews operating with equivalent capacity in both the Western and Eastern hemispheres. The multi-client services benefit from two complementary, recent vintage, well positioned seismic data libraries. In data processing and imaging, CGG’s and Veritas’ respective positions combine to create the industry reference.

 

  Backlog

 

Backlog estimates are based on a number of assumptions and estimates, including assumptions as to exchange rates between the euro and the U.S. dollar and estimates of the percentage of completion contracts. Contracts for services are occasionally modified by mutual consent and in certain instances are cancelable by the customers on short notice without penalty. Consequently, backlog as of any particular date may not be indicative of actual operating results for any succeeding period.

 

Backlog for our Services segment represents the revenues it expects to receive from commitments for contract services it has with its customers and, in connection with the acquisition of multi-client data, represents the amount of pre-sale commitments for such data. Backlog for our Products segment represents the total value of orders it has received but not yet fulfilled.

 

Our backlog for our Services and Products segments, as of March 1, 2007 was U.S.$1,609 million (U.S.$1,211 million for CGG Veritas Services and U.S.$398 million for Products excluding intra-group sales with CGG Veritas).

 

  Financing transactions

 

  71/2 Senior Notes due 2015 — Additional notes

 

On February 3, 2006, we issued an additional $165 million principal amount of our dollar-denominated 71/2% Senior Notes due 2015 issued in April 2005 in a private placement to certain eligible investors. The notes were issued at a price of 1031/4% of their principal amount, resulting in a Yield-to-Worst of 6.9%. The net proceeds from the notes were used on February 10, 2006 to repay the $140.3 million remaining outstanding under our $375 million bridge credit facility used to finance the acquisition of Exploration Resources. On August 17, 2006, U.S. $164 million in principal amount of these notes were exchanged for identical notes registered with the SEC.

 

  CGG MarineResources Norge asset financing agreement

 

On March 13, 2006, CGG Marine Resources Norge AS concluded an asset financing agreement for U.S.$26.5 million with a bank. The purpose of this agreement was to finance the acquisition of newly-developed “Sentinel” streamers for the vessel Symphony. This financing agreement is guaranteed by a pledge on the streamers. At December 31, 2006, this facility was fully drawn.

 

  Exploration Resources credit facility

 

On March 29, 2006, Exploration Resources concluded a credit facility of U.S.$70 million. The proceeds from this credit facility were used to finance the conversion of the Geo-Challenger from a cable laying vessel to a 3D seismic vessel and seismic equipment for the vessels C-Orion and Geo-Challenger. At December 31, 2006, this facility was fully drawn.

 

  Conversion of our 7.75% $85 million convertible bonds due 2012

 

Approximately $70 million of our $85 million 7.75% convertible bonds due 2012 were converted in November 2005. A general meeting of bondholders, held on April 5, 2006, and a general meeting of CGG shareholders, held on May 11, 2006, approved a change to the terms and conditions of the remaining convertible bonds to grant bondholders a right to receive a cash payment upon immediate conversion of the bonds. The early conversion period was open on May 12, 2006 only. At the conclusion of the conversion period, all the remaining 2,525 convertible bonds were converted, leading us to issue of 274,914 new shares of CGG and pay a total premium of $2.1 million (€1.6 million) to the converting bondholders. This premium has been recognized as an expense under the line item “Derivative and other expenses on convertible bonds” in our income statement for the year ended December 31, 2006. In addition, we wrote-off the deferred issuance costs attached to the remaining 2,525 convertible bonds in connection with the early conversion, corresponding to a €0.7 million expense under the line item “Derivative and other expenses on convertible bonds” in our income statement for the year ended December 31, 2006.

 

  Syndicated credit facility

 

In 2006, our syndicated credit facility dated March 12, 2004 of U.S.$60 million was reduced to U.S.$20 million. At December 31, 2006, this facility was not drawn. This facility was cancelled on January 10, 2007.

 

  Bridge loan facility

 

On November 22, 2006, CGG, as borrower, and certain of its subsidiaries, as guarantors, entered into a U.S.$1.6 billion senior secured bridge loan facility agreement with Credit Suisse International, as agent and security agent, and the lenders party thereto. On January 12, 2007, CGG borrowed U.S.$700 million under the bridge loan facility, and the proceeds were used to:

 

 

Upon such borrowing and the concurrent funding of the U.S.$1.0 billion term loan facility, the unused commitments of U.S.$900 million were terminated.

 

We used the net proceeds of our February 2007 offering, together with cash on hand, to repay in full the bridge loan facility.

 

  Senior Facilities

 

On January 12, 2006, Veritas, as borrower, and CGG entered into a U.S.$1.115 billion senior secured credit agreement with Credit Suisse, as administrative agent and collateral agent, and the lenders party thereto, pursuant to which credit agreement Veritas borrowed a U.S.$1.0 billion senior secured “term loan B” and obtained a U.S.$115 million senior secured U.S. revolving facility (which revolving facility includes letter of credit and swingline subfacilities). Aggregate commitments under the U.S. revolving facility were increased to U.S.$140 million on January 26, 2007.

 

The proceeds of the term loan facility were used to:

 

 

Proceeds of loans under the U.S. revolving facility may be used for the general corporate purposes of Veritas.

 

  Additional senior notes

 

On February 9, 2007, we issued an additional U.S.$200 million in aggregate principal amount of 71/2% senior notes due 2015 and U.S.$400 million in aggregate principal amount of 73/4% senior notes due 2017. Both issues of senior notes were guaranteed on a senior basis by certain of our subsidiaries. The notes are listed on the Euro MTF market of the Luxembourg Stock Exchange. We used the net proceeds from the offering plus cash on hand to repay in full the U.S.$700 million outstanding under the bridge loan facility used to finance a portion of the cash consideration paid in the Veritas merger.

 

Critical Accounting Policies

 

Our significant accounting policies, which we have applied consistently, are fully described in note 1 to our consolidated financial statements included elsewhere in this document. However, certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations, and these are described below. As we must exercise significant judgment when we apply these policies, their application is subject to an inherent degree of uncertainty.

 

  Operating revenues

 

Operating revenues are recognized when they can be measured reliably, and when it is likely that the economic benefits associated with a transaction will flow to the relevant entity, which is at the point that such revenues have been realized or are considered realizable. For contracts where the percentage on completion method of accounting is being applied, revenues are only recognized when the costs incurred for the transaction and the cost to complete the transaction can be measured reliably and such revenues are considered earned and realizable.

 

 

Multi-client surveys consist of seismic surveys to be licensed to customers on a non-exclusive basis. All costs directly incurred in acquiring, processing and otherwise completing seismic surveys are capitalized into the multi-client surveys. The value of our multi-client library is stated on our balance sheet at the aggregate of those costs less accumulated amortization or at fair value if lower. We review the library for potential impairment of our independent surveys on an ongoing basis.

 

Revenues related to multi-client surveys result from (i) pre-commitments and (ii) licenses after completion of the surveys (“after-sales”).

 

Pre-commitments — Generally, we obtain commitments from a limited number of customers before a seismic project is completed. These pre-commitments cover part or all of the survey area blocks. In return for the commitment, the customer typically gains the right to direct or influence the project specifications, advance access to data as it is being acquired, and favorable pricing. We record payments that we receive during periods of mobilization as advance billing in the balance sheet in the line item “Advance billings to customers”.

 

We recognize pre-commitments as revenue when production is begun based on the ratio of project cost incurred during that period to total estimated project cost. We believe this ratio to be generally consistent with the physical progress of the project.

 

After sales — Generally, we grant a license entitling non-exclusive access to a complete and ready for use, specifically-defined portion of our multi-client data library in exchange for a fixed and determinable payment. We recognize after sales revenue upon the client executing a valid license agreement and having been granted access to the data. Within thirty days of execution and access, the client may exercise our warranty that the medium on which the data is transmitted (a magnetic cartridge) is free from technical defects. If the warranty is exercised, we will provide the same data on a new magnetic cartridge. The cost of providing new magnetic cartridges is negligible.

 

After sales volume agreements — We enter into customer arrangements in which we agree to grant licenses to the customer for access to a specified number of blocks of the multi-client library. These arrangements typically enable the customer to select and access the specific blocks for a limited period of time. We recognize revenue when the blocks are selected and the client has been granted access to the data. Within thirty days of execution and access, the client may exercise our warranty that the medium on which the data is transmitted (a magnetic cartridge) is free from technical defects. If the warranty is exercised, we will provide the same data on a new magnetic cartridge. The cost of providing new magnetic cartridges is negligible.

 

 

In exclusive surveys, we perform seismic services (acquisition and processing) for a specific customer. We recognize proprietary/contract revenues as the services are rendered. We evaluate the progress to date, in a manner generally consistent with the physical progress of the project, and recognize revenues based on the ratio of the project cost incurred during that period to the total estimated project cost. We believe this ratio to be generally consistent with the physical progress of the project.

 

The billings and the costs related to the transits of seismic vessels at the beginning of the survey are deferred and recognized over the duration of the contract by reference to the technical stage of completion.

 

In some exclusive survey contracts and a limited number of multi-client survey contracts, we are required to meet certain milestones. We defer recognition of revenue on such contracts until all milestones that provide the customer a right of cancellation or refund of amounts paid have been met.

 

 

Revenues from our other geophysical services are recognized as the services are performed and, when related to long-term contracts, using the performance method of recognizing income.

 

 

We recognize revenues on equipment sales upon delivery to the customer. Any advance billings to customers are recorded in current liabilities.

 

 

We recognize revenues from the sale of software and hardware products following acceptance of the product by the customer at which time we have no further significant vendor obligations remaining. Any advance billings to customers are recorded in current liabilities.

 

If an arrangement to deliver software, either alone or together with other products or services, requires significant production, modification, or customization of software, the entire arrangement is accounted for as a production-type contract, i.e. using the percentage of completion method.

 

If the software arrangement provides for multiple deliverables (e.g. upgrades or enhancements, post-contract customer support such as maintenance, or services), the revenue is allocated to the various elements based on specific objective evidence of fair value, regardless of any separate allocations stated within the contract for each element. Each element is appropriately accounted for under the applicable accounting standard.

 

Maintenance revenues consist primarily of post contract customer support agreements and are recorded as advance billings to customers and recognized as revenue on a straight-line basis over the contract period.

 

  Multi-client surveys

 

Multi-client surveys consist of seismic surveys to be licensed to customers on a non-exclusive basis. All costs directly incurred in acquiring, processing and otherwise completing seismic surveys are capitalized into the multi-client surveys. The value of our multi-client library is stated on our balance sheet at the aggregate of those costs less accumulated amortization or at fair value if lower. We review the library for potential impairment of our independent surveys on an ongoing basis.

 

We amortize the multi-client surveys over the period during which the data is expected to be marketed using a pro-rata method based on recognized revenues as a percentage of total estimated sales (such estimation relies on the historical sales track record).

 

In this respect, we use two different sets of parameters depending on the area or type of surveys considered:

 

 

  Development costs

 

Expenditures on research activities undertaken with the prospect of gaining new scientific or technological knowledge and understanding are recognized in the income statement as expenses as incurred and are presented as “Research and development expenses — net”.

 

Expenditure on development activities, whereby research finding are applied to a plan or design for the production of new or substantially improved products and processes, are capitalized if:

 

 

Expenditures capitalized include the cost of materials, direct labor and an appropriate proportion of overhead. Other development expenditures are recognized in the income statement as expenses as incurred and are presented as “Research and development expenses — net”.

 

Capitalized development expenditures are stated at cost less accumulated amortization and impairment losses.

 

We amortize capitalized developments costs over 5 years.

 

Research & development expenses in our income statement represent the net cost of development costs that are not capitalized, of research costs, offset by government grants acquired for research and development.

 

  Impairment

 

In accordance with IAS 36 “Impairment of assets”, the carrying amounts of our assets, other than inventories and deferred tax assets, are reviewed at each balance sheet date to determine whether there is any indication of impairment. If any such indication exists, we estimate the asset’s recoverable amount. Factors we consider important that could trigger an impairment review include the following:

 

 

The recoverable amount of tangible and intangible assets is the greater of their net fair value less costs to sell and value in use.

 

For cash generating units comprised of goodwill, assets that have an indefinite useful life or intangible assets that are not yet available for use, we estimate the recoverable amount at each balance sheet date.

 

We determine the recoverable amounts by estimating future cash flows expected from the assets or from the cash generating units, discounted to their present value using a discount rate that reflects current market assessments of the time value of money and the risks specific to the asset.

 

We recognize an impairment loss whenever the carrying amount of an asset exceeds its recoverable amount. For an asset that does not generate largely independent cash inflows, the recoverable amount is determined for the cash-generating unit to which the asset belongs.

 

Impairment losses are recognized in the income statement. Impairment losses recognized in respect of a group of non independent assets allocated to a cash-generating unit are allocated first to reduce the carrying amount of any goodwill allocated to cash-generating units (group of units) and then, to reduce the carrying amount of the other assets in the unit (group of units) on a pro rata basis.

 

  Onerous contracts

 

We recognize a provision for onerous contracts corresponding to our estimates of the excess of the unavoidable costs of meeting the obligations under the contract over the economic benefits expected to be received under the contract estimated by the Group.

 

  Convertible bonds

 

As our U.S.$85 million 7.75% subordinated bonds due 2012 convertible into new ordinary shares or redeemable into new shares and/or existing shares and/or in cash issued in 2004 are denominated in U.S. dollars and convertible into new ordinary shares denominated in Euros, the embedded conversion option has been bifurcated and accounted separately within non-current liabilities. The conversion option and the debt component were initially recognized at fair value on issuance. The amount of the debt component to be recorded within the financial statements has been discounted at the rate of 10.75%, the rate borne by comparable indebtedness without a conversion option. As a result, we bifurcated the embedded conversion option by €10.5 million at the issuance of the bonds as “Other non-current assets”. The discounting of the bonds at issuance was accounted for as “Cost of financial debt” until the maturity of the bonds. Those convertible bonds were totally converted at December 31, 2006.

 

Changes in the fair value of the embedded derivative were recognized in the consolidated income statement in the line item “Variance on derivative convertible bonds”. The fair value of the embedded derivative was determined using a binomial model.

 

Year ended December 31, 2006 compared with year ended December 31, 2005

 

  Operating revenues

 

Our consolidated operating revenues for the year ended December 31, 2006 increased 53% to €1,329.6 million from €869.9 million for 2005. Expressed in U.S dollars, our consolidated operating revenues increased 54% to U.S.$1,669.7 million from U.S.$1,081.0 million. The increase was attributable to our Services segment, particularly to our Offshore SBU (which included Exploration Resources’ results for part of 2006) and our Land SBU.

 

  Revenues by Activity

 

The following table sets forth our consolidated operating revenues by activity (excluding intra-group sales), and the percentage of total consolidated operating revenues represented thereby, during each of the periods indicated:

 

 

     Services

 

Operating revenues for our Services segment (excluding intra-group sales) for the year ended December 31, 2006 increased 43% to €792.1 million from €552.3 million for 2005. Expressed in U.S. dollars, operating revenues increased 44% to U.S.$991.3 million from U.S.$686.2 million. This increase was primarily attributable to our Offshore SBU.

 

Land SBU.  Operating revenues for our Land SBU for the year ended December 31, 2006 decreased 1% to €119.1 million from €119.8 million for 2005. Expressed in U.S. dollars, operating revenues remained constant at

U.S.$148.7 million in 2006 compared to U.S.$148.8 million in 2005. Eleven crews on average were in operation in both 2005 and 2006.

 

Offshore SBU.  Operating revenues for our Offshore SBU increased 67% to €533.2 million for the year ended December 31, 2006 from €319.5 for 2005. Expressed in U.S. dollars, operating revenues increased 68% to U.S.$667.2 million from U.S.$397.1 million. This increase was mainly due to the expansion of our fleet size to nine 3D vessels in operation at December 31, 2006 (from five 3D vessels during the first eight months of 2005) with the Exploration Resources acquisition, as well as price increases in the exclusive marine market, effective use of our seismic vessel capacity and high after-sales of our multi-client surveys.

 

Exclusive sales increased 69% to €314.3 million for the year ended December 31, 2006 compared to €185.8 million for 2005. Exclusive contracts accounted for 59% of our Offshore sales for the year ended December 31, 2006 compared to 58% for 2005. Multi-client data sales increased 63% to €217.5 million for the year ended December 31, 2006 from €133.7 million for 2005 primarily due to a strong level of pre-commitments. Pre-commitment sales increased 132% to €84.3 million for the year ended December 31, 2006 from €36.3 million for 2005, due to various multi-clients surveys in progress in Brazil and in the Gulf of Mexico. After-sales increased by 37% to €133.2 million for the year ended December 31, 2006 from €97.4 million for 2005. For the year ended December 31, 2006, and particularly in the three months ended March 31, 2006, there was a high demand for data in the Gulf of Mexico, where exploration licenses were allocated in March 2006, and in Brazil, where exploration blocks awarded in 2005 were effectively allocated at the beginning of 2006.

 

The net book value of our marine multi-clients data library was €71.8 million at December 31, 2006 compared to €93.6 million at December 31, 2005. On March 31, 2006, the Norwegian government decided not to award exploration-production licenses on blocks where one of our surveys (Moere) is located. As this decision changed our previous estimate of future sales, this €4.6 million survey was fully depreciated at March 31, 2006 and remained fully depreciated at December 31, 2006.

 

Processing and Reservoir SBU.  Operating revenues for our Processing and Reservoir SBU increased 24% to €139.7 million for the year ended December 31, 2006 from €113.0 million for 2005. In U.S. dollar terms, operating revenues increased 25% to U.S.$175.3 million from U.S.$140.4 million due to a dynamic market with strong demand for high quality imagery.

 

     Products

 

Operating revenues for our Products segment for the year ended December 31, 2006 increased 61% to €610.0 million from €378.8 million for 2005. Expressed in U.S. dollar terms, revenues increased 63% to U.S.$768.0 million for the year ended December 31, 2006 from U.S.$469.8 million for 2005. This strong increase was due to the successful launch of the Sentinel, the new generation of Marine solid streamers, and to the continued strong demand for Land products generally.

 

Excluding intra-group sales, operating revenues increased 69% to €537.5 million for the year ended December 31, 2006 from €317.6 million for 2005. Expressed in U.S. dollar terms, revenues excluding intra-group sales increased 72% to U.S.$678.4 million for the year ended December 31, 2006 from U.S.$394.8 million for 2005.

 

  Operating Expenses

 

Cost of operations, including depreciation and amortization, increased 33% to €890.0 million for the year ended December 31, 2006 from €670.0 million for 2005. As a percentage of operating revenues, cost of operations decreased to 67% for the year ended December 31, 2006 from 77% for 2005, due to improved productivity in both Services and Products segments and to significant after-sales on multi-client surveys that were already fully depreciated. As a consequence, gross profit increased 118% to €441.4 million for the year ended December 31, 2006 from €201.8 million for 2005.

 

Depreciation expense increased for the year ended December 31, 2006 by 39% to €106.0 million from €76.3 million for 2005, due to depreciation of Exploration Resources vessels over 12 months in 2006 and over four

months in 2005. Multi-client surveys depreciation was €80.6 million for the year ended December 31, 2006 compared with €69.6 million for 2005.

 

Research and development expenditures, net of government grants, increased 21% to €37.7 million for the year ended December 31, 2006 from €31.1 million for 2005 due to development efforts in our Product segments and a lower research tax credit granted in 2006 to our Services segment.

 

Selling, general and administrative expenses increased 39% to €126.4 million for the year ended December 31, 2006 from €91.2 million for 2005, in part as a result of the Exploration Resources integration and the need to support the significant organic growth, and on the other hand as a result of the accounting cost of our stock-options plans and free shares allocation plan amounting to €7.4 million for the year ended December 31, 2006 compared to €0.4 million for the year ended December 31, 2005. Despite this expense, selling, general and administrative costs, as a percentage of operating revenues remained constant at 10% for both 2006 and 2005.

 

  Other Income (Expenses)

 

Other income net of other expenses totaled €11.7 million for the year ended December 31, 2006 compared to other expenses net of other income of €4.4 million for 2005.

 

Other incomes for the year ended December 31, 2006 included primarily:

 

 

Other expenses for the year ended December 31, 2005 included primarily:

 

 

  Operating Income

 

Operating income increased to €289.0 million for the year ended December 31, 2006 from €75.1 million for 2005. This increase was due to increases in both our Services and Products segments.

 

Operating income from our Services segment was €150.3 million for the year ended December 31, 2006 compared to a loss of €25.2 million for 2005. This increase was mainly due to a high level of marine multi-client after-sales, high prices in the exclusive marine acquisition sector and improved use of our seismic vessel capacity.

 

Operating income from our Products segment was €174.2 million for the year ended December 31, 2006 compared to €79.8 million for 2005. This increase was primarily due to a higher volume of sales and improved gross margins.

 

  Cost of Financial Debt, Net

 

Net cost of financial debt decreased 40% to €25.4 million for the year ended December 31, 2006 from €42.3 million for 2005. €9.4 million of this €16.9 million decrease was due to the financial cost of the early redemption of our 105/8% bonds due 2007 recognized in 2005.

 

The remainder of the decrease is due to the changes in the structure of our financial debt mainly as follows:

 

 

 

  Other Financial Expense

 

The cost of the conversion option embedded in our U.S.$85 million 7.75% convertible bonds due 2012 resulted in an expense of €23.0 with respect to those bonds outstanding after November 2005 for the year ended December 31, 2006 and an expense of €24.1 million for the year ended December 31, 2005, accounted for as “Derivative and other expenses on convertible bonds” in our income statement. The expense was due in 2006 to (i) an increase of €20.7 million in the value of the derivative mainly due to the increase in our share price, (ii) the €1.6 million premium paid for the early conversion of the remaining convertible bonds on May 12, 2006 and (iii) the €0.7 million write-off of issuance costs recognized as an expense at the time of the early conversion.

 

Other financial expenses increased to €8.8 million for the year ended December 31, 2006 from €1.9 million for 2005, principally as a result of a €4.9 million cost on forward exchange contracts of U.S. dollars. The remaining €3.9 million loss was mainly due to foreign exchange difference losses which were offset by the €8.9 million gain on forward exchange contracts in U.S. dollars that qualified for cash-flow hedge treatment and are presented as “Other operating income” in the income statement.

 

  Equity in Income of Affiliates

 

Equity in income of affiliates accounted for under the equity method decreased to €10.1 million for the year ended December 31, 2006 from €13.0 million for 2005. Equity in income from Argas, our joint venture in Saudi Arabia, decreased to €9.5 million for the year ended December 31, 2006 from €12.7 million for 2005.

 

  Income Taxes

 

Income taxes increased to €83.2 million for the year ended December 31, 2006 from €26.6 million for 2005, in part due to an increase in our U.S. income tax resulting from the high level of Marine products sales and after-sales of multi-clients surveys in the Gulf of Mexico. In addition, a €12.2 million net tax expense on the French tax group occurred because our remaining cumulated French carry-forward losses no longer offset our French net deferred tax liability position at December 31, 2006. A deferred tax income of €16.3 million was recognized for the French tax group for the net deferred tax asset existing at January 1, 2006 and not previously recognized.

 

We are not subject to a worldwide taxation system, and the income tax paid in foreign countries, primarily based on revenues, does not generate comparable tax credits in France, our country of consolidated taxation.

 

  Net Income (Loss)

 

For the year ended December 31, 2006 we had a group share of net income of €157.1 million compared to a net loss of €7.8 million for the year ended December 31, 2005.

 

Year ended December 31, 2005 compared with year ended December 31, 2004

 

  Operating Revenues

 

Our consolidated operating revenues for the year ended December 31, 2005 increased 27% to €869.9 million from €687.4 million for 2004. Expressed in U.S dollars, our consolidated operating revenues increased 26% to U.S.$1,081.0 million from U.S.$854.8 million. The increase was attributable to our Services segment, particularly to our Offshore SBU (which included Exploration Resources’ results for part of 2005) and our Land SBU.

 

  Revenues by Activity

 

The following table sets forth our consolidated operating revenues by activity (excluding intra-group sales), and the percentage of total consolidated operating revenues represented thereby, during each of the periods indicated: