form10q.htm
UNITED
STATES SECURITIES AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
T Quarterly
Report Pursuant to Section 13 or 15(d) of the
Securities
Exchange Act of 1934
For
the quarterly period ended March 31, 2008
OR
£ Transition
Report Pursuant to Section 13 or 15(d)
of the
Securities Exchange Act of 1934
For the
transition period from _____ to _____
Commission
File Number 1-33146
KBR,
Inc.
(a
Delaware Corporation)
20-4536774
601
Jefferson Street
Suite
3400
Houston,
Texas 77002
(Address
of Principal Executive Offices)
Telephone
Number – Area Code (713) 753-3011
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
at least the past 90 days.
Yes T No £
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See definition of “large accelerated filer,” “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange
Act. (Check one):
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Large
accelerated filer T
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Accelerated
filer £
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Non-accelerated
filer £
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(Do
not check if a smaller reporting company)
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Smaller
reporting company £
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes £ No T
As of
April 28, 2008, 169,788,952 shares of KBR, Inc. common stock, $0.001 par value
per share, were outstanding.
Index
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7
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30
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43
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45
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Forward-Looking
and Cautionary Statements
This
report contains certain statements that are, or may be deemed to be,
“forward-looking statements” within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. The Private Securities Litigation Reform Act of 1995
provides safe harbor provisions for forward-looking information. The words
“believe,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “plan,”
“expect” and similar expressions are intended to identify forward-looking
statements. All statements other than statements of historical fact
are, or may be deemed to be, forward-looking statements. Forward-looking
statements include information concerning our possible or assumed future
financial performance and results of operations and backlog
information.
We
have based these statements on our assumptions and analyses in light of our
experience and perception of historical trends, current conditions, expected
future developments and other factors we believe are appropriate in the
circumstances. Although we believe that the forward-looking statements contained
in this report are based upon reasonable assumptions, forward-looking statements
by their nature involve substantial risks and uncertainties that could
significantly affect expected results, and actual future results could differ
materially from those described in such statements. While it is not possible to
identify all factors, factors that could cause actual future results to differ
materially include the risks and uncertainties disclosed in our 2007 Annual
Report on Form 10-K contained in Part I under “Risk Factors”.
Many
of these factors are beyond our ability to control or predict. Any of these
factors, or a combination of these factors, could materially and adversely
affect our future financial condition or results of operations and the ultimate
accuracy of the forward-looking statements. These forward-looking statements are
not guarantees of our future performance, and our actual results and future
developments may differ materially and adversely from those projected in the
forward-looking statements. We caution against putting undue reliance on
forward-looking statements or projecting any future results based on such
statements or present or prior earnings levels. In addition, each
forward-looking statement speaks only as of the date of the particular
statement, and we undertake no obligation to publicly update or revise any
forward-looking statement.
Condensed
Consolidated Statements of Income
(In
millions, except for per share data)
(Unaudited)
|
|
|
Three
Months Ended
|
|
|
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March 31,
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2008
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2007
|
|
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Revenue:
|
|
|
|
|
|
|
|
Services
|
|
$ |
2,498 |
|
|
$ |
2,029 |
|
|
Equity in earnings (losses) of unconsolidated
affiliates, net
|
|
|
21 |
|
|
|
(2 |
) |
|
Total revenue
|
|
|
2,519 |
|
|
|
2,027 |
|
|
Operating
costs and expenses:
|
|
|
|
|
|
|
|
|
|
Cost
of services
|
|
|
2,309 |
|
|
|
1,925 |
|
|
General and administrative
|
|
|
56 |
|
|
|
57 |
|
|
Total operating costs and
expenses
|
|
|
2,365 |
|
|
|
1,982 |
|
|
Operating
income
|
|
|
154 |
|
|
|
45 |
|
|
Interest
income (expense), net
|
|
|
16 |
|
|
|
13 |
|
|
Foreign currency losses,
net
|
|
|
(3 |
) |
|
|
(3 |
) |
|
Income
from continuing operations before income taxes and minority
interest
|
|
|
167 |
|
|
|
55 |
|
|
Provision
for income taxes
|
|
|
(60 |
) |
|
|
(26 |
) |
|
Minority interest in net income of
subsidiaries
|
|
|
(9 |
) |
|
|
(5 |
) |
|
Income
from continuing operations
|
|
|
98 |
|
|
|
24 |
|
|
|
|
|
|
|
|
|
|
|
|
Income
from discontinued operations, net of tax provision of $0 and $(5)
|
|
|
- |
|
|
|
4 |
|
|
Net income
|
|
$ |
98 |
|
|
$ |
28 |
|
|
Basic
income per share (1):
|
|
|
|
|
|
|
|
|
|
Continuing
operations
|
|
$ |
0.58 |
|
|
$ |
0.14 |
|
|
Discontinued operations,
net
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|
|
- |
|
|
|
0.02 |
|
|
Net income per share
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|
$ |
0.58 |
|
|
$ |
0.17 |
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|
Diluted
income per share (1):
|
|
|
|
|
|
|
|
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Continuing
operations
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$ |
0.58 |
|
|
$ |
0.14 |
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Discontinued operations,
net
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|
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- |
|
|
|
0.02 |
|
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Net income per share
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|
$ |
0.58 |
|
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$ |
0.17 |
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|
Basic weighted average common shares
outstanding
|
|
|
169 |
|
|
|
168 |
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Diluted weighted average common shares
outstanding
|
|
|
170 |
|
|
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168 |
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Cash dividends declared per
share
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$ |
0.05 |
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$ |
- |
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(1)
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Due
to the effect of rounding, the sum of the individual per share amounts may
not equal the total shown.
|
See
accompanying notes to condensed consolidated financial statements.
Condensed
Consolidated Balance Sheets
(In
millions except share data)
(Unaudited)
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March 31,
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December 31,
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2008
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2007
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Assets
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Current
assets:
|
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|
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Cash
and equivalents
|
|
$ |
1,927 |
|
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$ |
1,861 |
|
|
Receivables:
|
|
|
|
|
|
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Notes
and accounts receivable (less allowance for bad debts of $22 and
$23)
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946 |
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|
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927 |
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Unbilled receivables on uncompleted
contracts
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|
765 |
|
|
|
820 |
|
|
Total
receivables
|
|
|
1,711 |
|
|
|
1,747 |
|
|
Deferred
income taxes
|
|
|
178 |
|
|
|
165 |
|
|
Other
current assets
|
|
|
279 |
|
|
|
282 |
|
|
Current assets related to discontinued
operations
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|
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- |
|
|
|
1 |
|
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Total
current assets
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|
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4,095 |
|
|
|
4,056 |
|
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Property,
plant, and equipment, net of accumulated depreciation of $233 and
$227
|
|
|
220 |
|
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220 |
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Goodwill
|
|
|
251 |
|
|
|
251 |
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Equity
in and advances to unconsolidated affiliates
|
|
|
205 |
|
|
|
294 |
|
|
Noncurrent
deferred income taxes
|
|
|
134 |
|
|
|
139 |
|
|
Unbilled
receivables on uncompleted contracts
|
|
|
137 |
|
|
|
196 |
|
|
Other assets
|
|
|
225 |
|
|
|
47 |
|
|
Total assets
|
|
$ |
5,267 |
|
|
$ |
5,203 |
|
|
Liabilities,
Minority Interest and Shareholders’ Equity
|
|
|
Current
liabilities:
|
|
|
|
|
|
|
|
|
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Accounts
payable
|
|
$ |
1,196 |
|
|
$ |
1,117 |
|
|
Due
to Halliburton, net
|
|
|
13 |
|
|
|
16 |
|
|
Advanced
billings on uncompleted contracts
|
|
|
586 |
|
|
|
794 |
|
|
Reserve
for estimated losses on uncompleted contracts
|
|
|
118 |
|
|
|
117 |
|
|
Employee
compensation and benefits
|
|
|
326 |
|
|
|
316 |
|
|
Other
current liabilities
|
|
|
309 |
|
|
|
262 |
|
|
Current liabilities related to discontinued
operations
|
|
|
8 |
|
|
|
1 |
|
|
Total
current liabilities
|
|
|
2,556 |
|
|
|
2,623 |
|
|
Noncurrent
employee compensation and benefits
|
|
|
71 |
|
|
|
79 |
|
|
Other
noncurrent liabilities
|
|
|
175 |
|
|
|
151 |
|
|
Noncurrent
income tax payable
|
|
|
82 |
|
|
|
78 |
|
|
Noncurrent deferred tax
liability
|
|
|
46 |
|
|
|
37 |
|
|
Total liabilities
|
|
|
2,930 |
|
|
|
2,968 |
|
|
Minority interest in consolidated
subsidiaries
|
|
|
(27 |
) |
|
|
(32 |
) |
|
Shareholders’
equity and accumulated other comprehensive loss:
|
|
|
|
|
|
|
|
|
|
Preferred
stock, $0.001 par value, 50,000,000 shares authorized, no shares issued
and outstanding
|
|
|
- |
|
|
|
- |
|
|
Common
shares, $0.001 par value, 300,000,000 shares authorized, 169,776,917 and
169,709,601 issued and outstanding
|
|
|
- |
|
|
|
- |
|
|
Paid-in
capital in excess of par value
|
|
|
2,076 |
|
|
|
2,070 |
|
|
Accumulated
other comprehensive loss
|
|
|
(119 |
) |
|
|
(122 |
) |
|
Retained earnings
|
|
|
407 |
|
|
|
319 |
|
|
Total shareholders’ equity and accumulated other
comprehensive loss
|
|
|
2,364 |
|
|
|
2,267 |
|
|
Total liabilities, minority interest ,
shareholders’ equity and accumulated other comprehensive
loss
|
|
$ |
5,267 |
|
|
$ |
5,203 |
|
See
accompanying notes to condensed consolidated financial statements.
Condensed
Consolidated Statements of Cash Flows
(In
millions)
(Unaudited)
|
|
|
Three
Months Ended
|
|
|
|
|
March 31,
|
|
|
|
|
2008
|
|
|
2007
(Restated
See Note 1)
|
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
|
|
Net
income
|
|
$ |
98 |
|
|
$ |
28 |
|
|
Adjustments
to reconcile net income to net cash provided by (used in)
operations:
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
8 |
|
|
|
13 |
|
|
Equity
earnings from unconsolidated affiliates
|
|
|
(21 |
) |
|
|
(14 |
) |
|
Distribution
of earnings from unconsolidated affiliates
|
|
|
41 |
|
|
|
47 |
|
|
Deferred
income taxes
|
|
|
19 |
|
|
|
3 |
|
|
Impairment
of equity method investments
|
|
|
- |
|
|
|
18 |
|
|
Other
|
|
|
(31 |
) |
|
|
19 |
|
|
Changes
in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
Receivables
|
|
|
(14 |
) |
|
|
(223 |
) |
|
Unbilled
receivables on uncompleted contracts
|
|
|
68 |
|
|
|
(48 |
) |
|
Accounts
payable
|
|
|
71 |
|
|
|
(100 |
) |
|
Advanced
billings on uncompleted contracts
|
|
|
(234 |
) |
|
|
197 |
|
|
Accrued
employee compensation and benefits
|
|
|
9 |
|
|
|
24 |
|
|
Reserve
for loss on uncompleted contracts
|
|
|
1 |
|
|
|
(32 |
) |
|
Collection
of advances to unconsolidated affiliates, net
|
|
|
70 |
|
|
|
- |
|
|
Other
assets
|
|
|
(94 |
) |
|
|
9 |
|
|
Other liabilities
|
|
|
77 |
|
|
|
40 |
|
|
Total cash flows provided by (used in) operating
activities
|
|
|
68 |
|
|
|
(19 |
) |
|
Cash
flows from investing activities:
|
|
|
|
|
|
|
|
|
|
Capital
expenditures
|
|
|
(8 |
) |
|
|
(12 |
) |
|
Other investing activities
|
|
|
(7 |
) |
|
|
(1 |
) |
|
Total cash flows used in investing
activities
|
|
|
(15 |
) |
|
|
(13 |
) |
|
Cash
flows from financing activities:
|
|
|
|
|
|
|
|
|
|
Payments
to (from) Halliburton, net
|
|
|
- |
|
|
|
(123 |
) |
|
Payments
on long-term borrowings
|
|
|
- |
|
|
|
(5 |
) |
|
Net
proceeds from issuance of common stock
|
|
|
1 |
|
|
|
- |
|
|
Excess
tax benefits from stock-based compensation
|
|
|
1 |
|
|
|
- |
|
|
Payments of dividends to minority
shareholders
|
|
|
(9 |
) |
|
|
(14 |
) |
|
Total cash flows used in financing
activities
|
|
|
(7 |
) |
|
|
(142 |
) |
|
Effect of exchange rate changes on
cash
|
|
|
20 |
|
|
|
- |
|
|
Increase
(decrease) in cash and equivalents
|
|
|
66 |
|
|
|
(174 |
) |
|
Cash and equivalents at beginning of
period
|
|
|
1,861 |
|
|
|
1,461 |
|
|
Cash and equivalents at end of
period
|
|
$ |
1,927 |
|
|
$ |
1,287 |
|
|
Noncash financing
activities
|
|
|
|
|
|
|
|
|
|
Cash dividends declared
|
|
$ |
9 |
|
|
$ |
- |
|
See
accompanying notes to condensed consolidated financial statements.
Notes
to Condensed Consolidated Financial Statements
(Unaudited)
Note
1. Description of Business and Basis of Presentation
KBR, Inc.
and its subsidiaries (collectively, KBR) is a global engineering, construction
and services company supporting the energy, petrochemicals, government services
and civil infrastructure sectors. We offer a wide range of services through six
business units; Government and Infrastructure (“G&I”), Upstream, Services,
Downstream, Technology and Ventures. See Note 5 for financial
information about our reportable business segments.
KBR,
Inc., a Delaware corporation, was formed on March 21, 2006 as an indirect,
wholly owned subsidiary of Halliburton. KBR, Inc. was formed to own and operate
KBR Holdings, LLC (“KBR Holdings”). In November 2006, we completed an
initial public offering of 32,016,000 shares of our common stock (the
“Offering”) at $17.00 per share.
On
February 26, 2007, Halliburton’s board of directors approved a plan under which
Halliburton would dispose of its remaining interest in KBR through a tax-free
exchange with Halliburton’s stockholders pursuant to an exchange offer. On April
5, 2007, Halliburton completed the separation of KBR by exchanging the
135,627,000 shares of KBR owned by Halliburton for publicly held shares of
Halliburton common stock pursuant to the terms of the exchange offer (the
“Exchange Offer”) commenced by Halliburton on March 2, 2007.
On June
28, 2007, we completed the disposition of our 51% interest in Devonport
Management Limited (“DML”) to Babcock International Group plc. In
connection with the sale of our 51% interest in DML, we received $345 million in
cash proceeds, net of direct transaction costs, resulting in a gain of
approximately $101 million, net of tax of $115 million. In accordance with
the provisions of Statement of Financial Accounting Standards No. 144,
“Accounting for Impairment or Disposal of Long-Lived Assets,” the results of
operations of DML for the prior period have been reported as discontinued
operations. See Note 17 Discontinued Operations.
The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with the rules of the United States Securities and
Exchange commission (“SEC”) for interim financial statements and do not include
all annual disclosures required by accounting principles generally accepted in
the United States. These condensed consolidated financial statements should
be read in conjunction with the audited consolidated financial statements and
notes thereto included in our Annual Report on Form 10-K for the fiscal year
ended December 31, 2007 filed with the SEC. We believe that the
presentation and disclosures herein are adequate to make the information not
misleading, and the condensed consolidated financial statements reflect all
normal adjustments that management considers necessary for a fair presentation
of our consolidated results of operations, financial position and cash
flows. Operating results for interim periods are not necessarily indicative
of results to be expected for the full fiscal year 2008 or any other future
periods.
The
preparation of our condensed consolidated financial statements in conformity
with GAAP requires us to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the balance sheet dates and the reported amounts of revenue and
costs during the reporting periods. Actual results could differ materially
from those estimates. On an ongoing basis, we review our estimates based on
information currently available, and changes in facts and circumstances may
cause us to revise these estimates.
Our
condensed consolidated financial statements include the accounts of
majority-owned, controlled subsidiaries and variable interest entities where we
are the primary beneficiary. The equity method is used to account for
investments in affiliates in which we have the ability to exert significant
influence over the affiliates’ operating and financial policies. The cost
method is used when we do not have the ability to exert significant
influence. All material intercompany accounts and transactions are
eliminated.
Minority
interest in consolidated subsidiaries in our condensed consolidated balance
sheets principally represents minority shareholders’ proportionate share of the
equity in our consolidated subsidiaries. Minority interest in consolidated
subsidiaries is adjusted each period to reflect the minority shareholders’
allocation of income, or the absorption of losses by the
minority shareholders on certain majority-owned, controlled investments
where the minority shareholders are obligated to fund the balance of their share
of these losses.
Our
condensed consolidated financial statements reflect all costs of doing business,
including certain costs incurred by Halliburton on KBR’s behalf through the date
of our separation from Halliburton. Such costs have been charged to KBR in
accordance with Staff Accounting Bulletin (“SAB”) No. 55, “Allocation of
Expenses and Related Disclosure in Financial Statements of Subsidiaries,
Divisions or Lesser Business Components of Another Entity.”
Revisions. Our prior period
consolidated statements of income have been revised to reclassify certain
overhead expenses within general and administrative expenses rather than within
cost of services to allow transparency of business unit margins and general and
administrative expense consistent with the nature of the underlying costs and
the manner in which the costs are managed. See Note 5 for financial
information about our reportable business segments and how indirect costs are
managed. There was no impact on net income as previously reported in the
consolidated statements of income, or on the consolidated balance sheets or the
consolidated statements of cash flows, as a result of these
revisions. A summary of the financial statement line items affected
by the revisions is presented below.
|
|
|
For the three months ended March 31, 2007
(1)
|
|
|
In
millions
|
|
As Previously Reported
|
|
|
As Revised
|
|
|
Cost
of service
|
|
$ |
1,953 |
|
|
$ |
1,925 |
|
|
General
and administrative
|
|
$ |
29 |
|
|
$ |
57 |
|
(1) The
amounts in the table above are reflective of the sale of our 51% interest in DML
which occurred in the second quarter of 2007. All prior periods have
been reported as discontinued operations. See Note 17 Discontinued
Operations.
Restatement of Statement of Cash
Flows. The
amounts presented in the statement of cash flows for the three months ended
March 31, 2007 have been restated to correct an immaterial misclassification of
certain items between Cash flows from operating activities and Effect of
exchange rate changes. The misclassification resulted in a $16
million overstatement of changes in Accounts payable within Cash flows from
operating activities with an offsetting understatement in the same amount in the
Effect of exchange rate changes. The restatement did not result in a
change to the net income for the three months ended March 31, 2007, a change to
our balance sheet as of March 31, 2007 or a change in the net increase in cash
for the three months ended March 31, 2007.
Note
2. Income per Share
Basic income per share is based upon
the weighted average
number of common shares outstanding during the period. Dilutive income per share includes
additional common shares that would have been outstanding if potential common
shares with a dilutive effect had been issued. A reconciliation of the number of shares used for the basic
and diluted income per share calculations is as follows:
|
|
Three
Months Ended
|
|
|
|
March 31,
|
|
|
Millions of shares
|
2008
|
|
2007
|
|
|
Basic
weighted average common shares outstanding
|
|
|
169 |
|
|
|
168 |
|
|
Dilutive
effect of:
|
|
|
|
|
|
|
|
|
|
Stock options
and restricted shares
|
|
|
1 |
|
|
|
— |
|
|
Diluted weighted average common shares
outstanding
|
|
|
170 |
|
|
|
168 |
|
No
adjustments to net income were made in calculating diluted earnings per share
for the three months ended March 31, 2008 and 2007.
Note
3. Percentage-of-Completion Contracts
Unapproved
claims
The
amounts of unapproved claims included in determining the profit or loss on
contracts and the amounts recorded as “Unbilled work on uncompleted contracts”
as of March 31, 2008 and December 31, 2007 are as follows:
|
|
|
March 31,
|
|
|
December 31,
|
|
|
Millions of dollars
|
|
2008
|
|
|
2007
|
|
|
Probable
unapproved claims
|
|
$ |
133 |
|
|
$ |
178 |
|
|
Probable
unapproved change orders
|
|
|
5 |
|
|
|
4 |
|
|
Probable
unapproved claims related to unconsolidated subsidiaries
|
|
|
36 |
|
|
|
36 |
|
|
Probable unapproved change orders related to
unconsolidated subsidiaries
|
|
|
1 |
|
|
|
15 |
|
As of
March 31, 2008, the probable unapproved claims, including those from
unconsolidated subsidiaries, related to five completed contracts. See
Note 8 for a discussion of United States government contract claims, which are
not included in the table above.
We have
contracts with probable unapproved claims that will likely not be settled within
one year totaling $133 million and $178 million at March 31, 2008 and December
31, 2007, respectively, included in the table above, which are reflected as a
non-current asset in “Unbilled receivables on uncompleted contracts” on the
condensed consolidated balance sheets. Other probable unapproved claims that we
believe will be settled within one year have been recorded as a current asset in
“Unbilled receivables on uncompleted contracts” on the condensed consolidated
balance sheets.
Skopje
Embassy Project
In 2005,
we were awarded a fixed-price contract to design and build a U.S. embassy in
Skopje, Macedonia. As a result of a project estimate update and progress
achieved on design drawings, we recorded a $12 million loss in connection with
this project during the fourth quarter of 2006. Subsequently in 2007, we
recorded additional losses on this project of approximately $27 million, and
approximately $12 million during the first quarter of 2008 bringing our total
estimated losses to approximately $51 million. These additional costs
are a result of increased costs of materials and the related costs of freight,
installation and other costs. We are currently in process of further
refining the material requirements of the contract and we expect this to be
completed by June 30, 2008. We could incur additional costs and losses on
this project including costs and losses related to additional materials costs or
the related freight and installation costs that may be identified or if our
plans to make up lost schedule are not achieved. As of March 31,
2008, the project was approximately 62% complete.
Escravos
Project
In
connection with our review of a consolidated 50%-owned GTL project in
Escravos, Nigeria, during the second quarter of 2006, we identified increases in
the overall cost to complete this four-plus year project, which resulted in our
recording a $148 million charge before minority interest and taxes during the
second quarter of 2006. These cost increases were caused primarily by schedule
delays related to civil unrest and security on the Escravos River, changes
in the scope of the overall project, engineering and construction changes due to
necessary front-end engineering design changes and increases in procurement cost
due to project delays. The increased costs were identified as a result of our
first check estimate process.
During
the first half of 2007, we and our joint venture partner negotiated
modifications to the contract terms and conditions resulting in an executed
contract amendment in July 2007. The contract was amended to convert from a
fixed price to a reimbursable contract whereby we will be paid our actual cost
incurred less a credit that approximates the charge we identified in the second
quarter of 2006. The unamortized balance of the charge is included as
a component of the “Reserve for estimated losses on uncompleted contracts” in
the accompanying condensed consolidated balance sheets. Also included
in the amended contract are client determined incentives that may be earned over
the remaining life of the contract. In the three months ended March 31, 2008, we
did not earn any of the incentives available under the provisions of the amended
contract. Because our amended agreement with the client provides that
we will be reimbursed for our actual costs incurred, as defined, all amounts of
probable unapproved change order revenue that were previously included in the
project estimated revenues are now considered approved. Our Advanced
billings on uncompleted contracts included in our condensed consolidated balance
sheets related to this project, was $52 million and $236 million at March 31,
2008 and December 31, 2007, respectively.
Note
4. PEMEX
In 1997
and 1998 we entered into three contracts with PEMEX, the project owner, to build
offshore platforms, pipelines and related structures in the Bay of Campeche
offshore Mexico. The three contracts are known as EPC 1, EPC 22 and EPC 28,
respectively. All three projects encountered significant schedule delays and
increased costs due to problems with design work that was the contractual
responsibility of PEMEX, late delivery and defects in equipment provided by
PEMEX, increases in scope and other changes made by PEMEX. We completed work on
EPC 28 and EPC 22 in August 2002 and March 2004, respectively. PEMEX took
possession of the offshore facilities of EPC 1 in March 2004 after having
achieved oil production and prior to our completion of our scope of work
pursuant to the contract.
In
accordance with the terms of each of the contracts, we filed for arbitration
with the International Chamber of Commerce (ICC) in 2004 and 2005 claiming
recovery of damages of $323 million, $215 million and $142 million for EPC 1, 22
and 28, respectively. PEMEX subsequently filed counterclaims totaling $157
million, $42 million and $2 million for EPC 1, 22 and 28, respectively.
The
arbitration hearings for EPC 22 and EPC 28 were held in 2006 and November 2007
for EPC 1. In January 2008, we received payment from PEMEX related to the EPC 22
arbitration award of the ICC panel which was sufficient for recovery of our
investment in the note receivable for this contract, as well as $4 million in
interest income in the fourth quarter of 2007. We received notice in
February 2008, that the ICC approved the arbitration panel’s decision to award
in favor of KBR on the EPC 28 arbitration. The net award in our favor
was approximately $76 million plus accrued interest since 2002 which we estimate
ranges between $36 million and $49 million depending on whether interest is
calculated on a simple or compound method. The amount of the award
exceeded the book value of our claim receivable and accounts receivable of $61
million related to this project. As a result, we recorded an increase
to revenue and a gain of $51 million. Although the arbitration award
is legally binding and enforceable, we believe collection of the award may not
occur in the next 12 months and therefore, we have classified the total $112
million due from PEMEX for EPC 28 as a long term receivable included in “Other
assets” on the condensed consolidated balance sheets. We estimate
that the EPC 1 award will be made in the fourth quarter of 2008.
As a
result of the arbitration awards for EPC 22 and EPC 28, the costs incurred
related to these two projects are no longer considered to be probable
claims. The costs incurred related to EPC 1 continues to be
classified as a probable claim receivable. There have been no significant
adjustments to the EPC 1 claim amount since 2004.
Based on
facts known by us as of March 31, 2008, we believe that the remaining EPC 1
counterclaims referred to above filed by PEMEX are without merit and have
concluded there is no reasonable possibility that a loss has been
incurred. No amounts have been accrued for these counterclaims at
March 31, 2008.
Note
5. Business Segment Information
We
provide a wide range of services, but the management of our business is heavily
focused on major projects within each of our reportable segments. At any given
time, a relatively few number of projects and joint ventures represent a
substantial part of our operations.
During
the third quarter of 2007, we announced the reorganization of our operations
into six business units as a result of a change in operational and market
strategies in order to maximize KBR’s resources for future
opportunities. Each business unit has its own leader who reports to
our chief executive officer (“CEO”) who is also our chief operating decision
maker. During the fourth quarter of 2007, we completed the
reorganization of our monthly financial and operating information provided to
our chief operating decision maker and accordingly, we redefined our reportable
segments consistent with the financial information that our chief operating
decision maker reviews to evaluate operating performance and make resource
allocation decisions. Our reportable segments are Government and
Infrastructure, Upstream and Services. Our segment information has
been prepared in accordance SFAS No. 131 “Disclosures About Segments of an
Enterprise and Related Information” and all prior period amounts have been
restated to conform to the current presentation.
We
reorganized our internal reporting structure based on similar products and
services. The following is a description of our three reportable
segments:
Government and
Infrastructure.
Our G&I reportable segment delivers on-demand support services across the
full military mission cycle from contingency logistics and field support to
operations and maintenance on military bases. In the civil infrastructure
market, we operate in diverse sectors, including transportation, waste and water
treatment, and facilities maintenance. We provide program and project
management, contingency logistics, operations and maintenance, construction,
management, engineering, and other services to military and civilian branches of
governments and private clients worldwide.
Upstream. Our Upstream reportable
segment designs and constructs energy and petrochemical projects, including
large, technically complex projects in remote locations around the world. Our
expertise includes LNG and GTL gas monetization facilities, refineries,
petrochemical plants, onshore and offshore oil and gas production facilities
(including platforms, floating production and subsea facilities), onshore and
offshore pipelines. We provide a complete range of EPC-CS services, as well as
program and project management, consulting and technology services.
Services. Our
Services reportable segment provides construction and industrial services built
on the legacy established by the founders Brown & Root almost 100 years
ago. Our construction services include major project construction,
construction management and module and pipe fabrication services. Our
industrial services include routine maintenance small capital and turnaround
services as well as the full range of high value services including startup
commissioning, procurement support, facility services, supply chain solutions,
and electrical and instrumentation solutions. We also provide
offshore maintenance and construction services to oil and gas facilities using
semisubmersible vessels in the Bay of Campeche through a jointly held
venture. Our services are delivered to customers in variety of
industries including the petrochemical, refining, pulp and paper, and energy
industries.
Certain
of our operating segments do not individually meet the quantitative thresholds
as a reportable segment nor do they share a majority of the aggregation criteria
with another operating segment. These operating segments are reported
on a combined basis as “Other” and include our Downstream, Technology, and
Ventures operating segments as well as corporate expenses not included in the
operating segments’ results.
Intersegment
revenues are immaterial. Our equity in earnings and losses of
unconsolidated affiliates that are accounted for using the equity method of
accounting is included in revenue of the applicable segment.
The table
below presents information on our business segments.
|
|
|
Three
Months Ended
|
|
|
|
|
March 31
|
|
|
Millions of dollars
|
|
2008
|
|
|
2007
|
|
|
Revenue:
|
|
|
|
|
|
|
|
Government
and Infrastructure
|
|
$ |
1,684 |
|
|
$ |
1,457 |
|
|
Upstream
|
|
|
611 |
|
|
|
392 |
|
|
Services
|
|
|
108 |
|
|
|
71 |
|
|
Other
|
|
|
116 |
|
|
|
107 |
|
|
Total revenue
|
|
$ |
2,519 |
|
|
$ |
2,027 |
|
|
Operating segment income:
|
|
|
|
|
|
|
|
|
|
Government
and Infrastructure
|
|
$ |
80 |
|
|
$ |
70 |
|
|
Upstream
|
|
|
105 |
|
|
|
20 |
|
|
Services
|
|
|
13 |
|
|
|
10 |
|
|
Other
|
|
|
9 |
|
|
|
8 |
|
|
Operating
segment income (a)
|
|
|
207 |
|
|
|
108 |
|
|
Unallocated
amounts:
|
|
|
|
|
|
|
|
|
|
Labor
cost absorption (b)
|
|
|
3 |
|
|
|
(6 |
) |
|
Corporate general and
administrative
|
|
|
(56 |
) |
|
|
(57 |
) |
|
Total operating income
|
|
$ |
154 |
|
|
$ |
45 |
|
______________________
|
(a)
|
Operating
segment performance is evaluated by our chief operating decision maker
using operating segment income which is defined as operating segment
revenue less the cost of services and segment overhead directly
attributable to the operating segment. Operating segment income
excludes certain cost of services directly attributable to the operating
segment that is managed and reported at the corporate level, and corporate
general and administrative expenses. We believe this is the
most accurate measure of the ongoing profitability of our operating
segments.
|
|
(b)
|
Labor
cost absorption represents costs incurred by our central service labor and
resource groups (above)/ under the amounts charged to the operating
segments.
|
Note
6. Committed Cash
Cash and
equivalents include cash from advanced payments related to contracts in progress
held by ourselves or our joint ventures that we consolidate for accounting
purposes. The use of these cash balances is limited to the specific
projects or joint venture activities and is not available for other projects,
general cash needs, or distribution to us without approval of the board of
directors of the respective joint venture or subsidiary. At March 31,
2008 and December 31, 2007, cash and equivalents include approximately $358
million and $483 million, respectively, in cash from advanced payments held by
ourselves or our joint ventures that we consolidate for accounting
purposes.
Note
7. Comprehensive Income
The
components of other comprehensive income included the following:
|
|
|
Three
Months Ended
|
|
|
|
|
March 31
|
|
|
Millions of dollars
|
|
2008
|
|
|
2007
|
|
|
Net
income
|
|
$ |
98 |
|
|
$ |
28 |
|
|
|
|
|
|
|
|
|
|
|
|
Net
cumulative translation adjustments
|
|
|
(1 |
) |
|
|
(1 |
) |
|
Pension
liability adjustment
|
|
|
2 |
|
|
|
5 |
|
|
Net
unrealized gains (losses) on investments and
derivatives
|
|
|
- |
|
|
|
(1 |
) |
|
Total comprehensive income
|
|
$ |
99 |
|
|
$ |
31 |
|
Accumulated
other comprehensive loss consisted of the following:
|
|
|
March 31,
|
|
|
December 31,
|
|
|
Millions of dollars
|
|
2008
|
|
|
2007
|
|
|
Cumulative
translation adjustments
|
|
$ |
37 |
|
|
$ |
38 |
|
|
Pension
liability adjustments
|
|
|
(155 |
) |
|
|
(159 |
) |
|
Unrealized gains (losses) on investments and
derivatives
|
|
|
(1 |
) |
|
|
(1 |
) |
|
Total accumulated other comprehensive
loss
|
|
$ |
(119 |
) |
|
$ |
(122 |
) |
Accumulated
other comprehensive loss was charged $2 million, net of tax as of January 1,
2008, as a result of the measurement date requirements of SFAS No. 158,
“Employers’ Accounting for Defined Benefit Pension and Other Postretirement
Plans, an amendment of FASB Statements No. 87, 88, 106, and
132(R).” See Note 13 for further information.
Note
8. United States Government Contract Work
We
provide substantial work under our government contracts to the United States
Department of Defense and other governmental agencies. These contracts include
our worldwide United States Army logistics contracts, known as LogCAP and U.S.
Army Europe (“USAREUR”).
Given the
demands of working in Iraq and elsewhere for the United States government, we
expect that from time to time we will have disagreements or experience
performance issues with the various government customers for which we work. If
performance issues arise under any of our government contracts, the government
retains the right to pursue remedies, which could include threatened termination
or termination, under any affected contract. If any contract were so terminated,
we may not receive award fees under the affected contract, and our ability to
secure future contracts could be adversely affected, although we would receive
payment for amounts owed for our allowable costs under cost-reimbursable
contracts. Other remedies that could be sought by our government customers for
any improper activities or performance issues include sanctions such as
forfeiture of profits, suspension of payments, fines, and suspensions or
debarment from doing business with the government. Further, the negative
publicity that could arise from disagreements with our customers or sanctions as
a result thereof could have an adverse effect on our reputation in the industry,
reduce our ability to compete for new contracts, and may also have a material
adverse effect on our business, financial condition, results of operations, and
cash flow.
We have
experienced and expect to be a party to various claims against us by employees,
third parties, soldiers and others that have arisen out of our work in Iraq such
as claims for wrongful termination, assaults against employees, personal injury
claims by third parties and army personnel, and contractor
claims. While we believe we conduct our operations safely, the
environments in which we operate often lead to these types of claims. We
believe the vast majority of these types of claims are governed by the Defense
Base Act or precluded by other defenses. We have a dispute resolution program
under which most of these employee claims are subject to binding
arbitration. However, an unfavorable resolution or disposition of
these matters could have a material adverse effect on our business, results of
operations, financial condition and cash flow.
DCAA
audit issues
Our
operations under United States government contracts are regularly reviewed and
audited by the Defense Contract Audit Agency (“DCAA”) and other governmental
agencies. The DCAA serves in an advisory role to our customer. When issues are
identified during the governmental agency audit process, these issues are
typically discussed and reviewed with us. The DCAA then issues an audit report
with its recommendations to our customer’s contracting officer. In the case of
management systems and other contract administrative issues, the contracting
officer is generally with the Defense Contract Management Agency (“DCMA”). We
then work with our customer to resolve the issues noted in the audit report. If
our customer or a government auditor finds that we improperly charged any costs
to a contract, these costs are not reimbursable, or, if already reimbursed, the
costs must be refunded to the customer. Our revenue recorded for government
contract work is reduced for our estimate of costs that may be categorized as
disputed or unallowable as a result of cost overruns or the audit
process.
Security.
In February 2007, we received a letter from the Department of the Army informing
us of their intent to adjust payments under the LogCAP III contract associated
with the cost incurred by the subcontractors to provide security to their
employees. Based on this letter, the DCAA withheld the Army’s initial assessment
of $20 million. The Army based its assessment on one subcontract wherein, based
on communications with the subcontractor, the Army estimated 6% of the total
subcontract cost related to the private security costs. The Army indicated that
not all task orders and subcontracts have been reviewed and that they may make
additional adjustments. The Army indicated that, within 60 days, they would
begin making further adjustments equal to 6% of prior and current subcontractor
costs unless we provided timely information sufficient to show that such action
was not necessary to protect the government’s interest.
The Army
indicated that they believe our LogCAP III contract prohibits us from billing
costs of privately acquired security. We believe that, while the LogCAP III
contract anticipates that the Army will provide force protection to KBR
employees, it does not prohibit any of our subcontractors from using private
security services to provide force protection to subcontractor personnel. In
addition, a significant portion of our subcontracts are competitively bid lump
sum or fixed price subcontracts. As a result, we do not receive details of the
subcontractors’ cost estimate nor are we legally entitled to it. Accordingly, we
believe that we are entitled to reimbursement by the Army for the cost of
services provided by our subcontractors, even if they incurred costs for private
force protection services. Therefore, we believe that the Army’s position that
such costs are unallowable and that they are entitled to withhold amounts
incurred for such costs is wrong as a matter of law.
If we are
unable to demonstrate that such action by the Army is not necessary, a 6%
suspension of all subcontractor costs incurred to date could result in suspended
costs of approximately $400 million. The Army has asked us to provide
information that addresses the use of armed security either directly or
indirectly charged to LogCAP III. The actual costs associated with these
activities cannot be accurately estimated, but we believe that they should be
less than 6% of the total subcontractor costs. We will continue to work with the
Army to resolve this issue. In October 2007, we filed a claim to
recover the amounts withheld which was deemed denied as a result of no response
from the DCAA. In March 2008, we filed an appeal to the Armed
Services Board of Contracts Appeals to recover the amounts withheld. At this
time, the likelihood that a loss related to this matter has been incurred is
remote. As of March 31, 2008, we had not adjusted our revenues
or accrued any amounts related to this matter.
Dining Facility
Support Services. In April 2007, DCAA recommended withholding $13
million of payments from KBR alleging that Eurest Support Services (Cypress)
International Limited (“ESS”), a subcontractor to KBR providing dining facility
services in conjunction with our Logcap III contract in Iraq, over-billed for
the cost related to the use of power generators. Payments of $13 million were
withheld from us. In the first quarter of 2008, we favorably resolved
this matter with the DCAA resulting in the DCAA rescinding its previously issued
withholding.
Containers.
In June 2005, the DCAA recommended withholding certain costs associated with
providing containerized housing for soldiers and supporting civilian personnel
in Iraq. The DCAA recommended that the costs be withheld pending receipt of
additional explanation or documentation to support the subcontract
costs. During 2006, we resolved approximately $26 million of the
withheld amounts with our contracting officer which was received in the first
quarter of 2007. Approximately $30 million continues to be withheld from us as
of March 31, 2008, of which $17 million was withheld by us from our
subcontractor. We will continue working with the government and
our subcontractors to resolve the remaining amounts. At this time,
the likelihood that the loss is in excess of the amount accrued is
remote.
Dining
facilities. In
the third quarter of 2006, the DCAA raised questions regarding $95 million of
costs related to dining facilities in Iraq. We responded to the DCAA
that our costs are reasonable. In the fourth quarter of 2007, the DCAA suspended
$11 million of costs related to these dining facilities until such time we
provide documentation to support the price reasonableness of the rates
negotiated with our subcontractor and demonstrate that the amounts billed were
in accordance with the contract terms. In the first quarter of 2008,
the DCAA suspended an additional $53 million of costs until such time we provide
documentation to support the price reasonableness of the rates negotiated with
the subcontractor. We believe the prices obtained for these services
were reasonable and intend to vigorously defend ourselves on this
matter. We are working with our customer and the DCAA to resolve the
issue. As of March 31, 2008, we believe it is reasonably possible
that we could incur losses in excess of the amount accrued for possible
subcontractor costs billed to the customer that were possibly not in accordance
with contract terms. However, we are unable to estimate an amount of
possible loss or range of possible loss in excess of the amount accrued related
to any costs billed to the customer that were not in accordance with the
contract terms.
Kosovo
fuel. In April 2007, the Department of Justice (“DOJ”) issued
a letter alleging the theft in 2004 and subsequent sale of diesel fuel by KBR
employees assigned to Camp Bondsteel in Kosovo. In addition, the
letter alleges that KBR employees falsified records to conceal the thefts from
the Army. The total value of the fuel in question is estimated by the
DOJ at approximately $2 million based on an audit report issued by the
DCAA. We believe the volume of the misappropriated fuel is
significantly less than the amount estimated by the DCAA. We
responded to the DOJ that we had maintained adequate programs to control,
protect, and preserve the fuel in question. We further believe that
our contract with the Army expressly limits KBR’s responsibility for such
losses. Our discussions with the DOJ are ongoing and have included
items ranging from settlement of this matter for de minimus amounts to the DOJ
reserving their rights to litigate. Should litigation occur, we
believe we have meritorious defenses and intend to vigorously defend ourselves.
Neither our client nor the DCAA has indicated any intent to withhold payments
from us relating to this matter. We believe the likelihood that a loss has been
incurred related to this matter is remote and accordingly, no amounts have been
accrued.
Transportation
costs. The DCAA, in performing its audit activities under the
LogCAP III contract, raised a question about our compliance with the
provisions of the Fly America Act. Subject to certain exceptions, the Fly
America Act requires Federal employees and others performing U.S. Government
financed foreign air travel to travel by U.S. flag air carriers. There are
times when we transported personnel in connection with our services for the U.S.
military where we may not have been in compliance with the Fly America Act and
its interpretation through Federal Acquisition Regulations and the Comptroller
General. As of March 31, 2008, we have accrued an estimate of the amount
related to these non-compliant flights with a corresponding reduction to
revenue. At this time, the likelihood that a significant additional loss
will be incurred in excess of the amount accrued is remote. We will
continue to work with our customer to resolve this matter.
Other
issues. The DCAA is continuously performing audits of costs incurred for
the foregoing and other services provided by us under our government contracts.
During these audits, there have been questions raised by the DCAA about the
reasonableness or allowability of certain costs or the quality or quantity of
supporting documentation. The DCAA might recommend withholding some portion of
the questioned costs while the issues are being resolved with our customer.
Because of the intense scrutiny involving our government contracts operations,
issues raised by the DCAA may be more difficult to resolve. We do not believe
any potential withholding will have a significant or sustained impact on our
liquidity.
Investigations
relating to Iraq, Kuwait and Afghanistan
In the
first quarter of 2005, the DOJ issued two indictments associated with
overbilling issues we previously reported to the Department of Defense Inspector
General’s office as well as to our customer, the Army Materiel Command, against
a former KBR procurement manager and a manager of La Nouvelle Trading &
Contracting Company, W.L.L. We provided information to the DoD Inspector
General’s office in February 2004 about other contacts between former employees
and our subcontractors. In March 2006, one of these former employees
pled guilty to taking money in exchange for awarding work to a Saudi Arabian
subcontractor. The Inspector General’s investigation of these matters may
continue.
We
understand that the DOJ, an Assistant United States Attorney based in Illinois,
and others are investigating these and other individually immaterial matters we
have reported related to our government contract work in Iraq. If criminal
wrongdoing were found, criminal penalties could range up to the greater of
$500,000 in fines per count for a corporation or twice the gross pecuniary gain
or loss. We also understand that current and former employees of KBR have
received subpoenas and have given or may give grand jury or trial testimony
related to some of these matters.
Various
Congressional committees have conducted hearings on the U.S. military’s reliance
on civilian contractors, including with respect to military operations in
Iraq. We have provided testimony and information for these hearings.
We continue to provide information and testimony with respect to operations in
Iraq in these Congressional committees, including the House Armed Services
Committee. We have also received Congressional inquiries regarding
our offshore payroll structure and whether FICA taxes should have been
withheld. We are currently preparing our response to the
inquiries. We believe we have followed the rules and regulations of
the IRS with respect to our payroll withholdings.
We have
identified and reported to the US Departments of State and Commerce numerous
exports of materials, including personal protection equipment such as helmets,
goggles, body armor and chemical protective suits, in connection with personnel
deployed to Iraq and Afghanistan that possibly were not in accordance with the
terms of our export license or applicable regulations. However, we believe that
the facts and circumstances leading to our conclusion of possible non-compliance
are unique and potentially mitigate any possible fines and penalties because the
exported items are the property of the U.S. government and are used or consumed
in connection with services rendered to the U.S. government. In
addition, we have responded to a March 19, 2007, subpoena from the DoD Inspector
General concerning licensing for armor for convoy trucks and antiboycott
issues. We continue to comply with the requests to provide
information under the subpoena. Whereas it is reasonably possible that we may be
subject to fines and penalties for possible acts that are not in compliance with
our export license or regulations, at this time it is not possible to estimate
an amount of loss or range of losses that may have been incurred. A failure to
comply with these laws and regulations could result in civil and/or criminal
sanctions, including the imposition of fines upon us as well as the denial of
export privileges and debarment from participation in U.S. government contracts.
We are in ongoing communications with the appropriate authorities with respect
to these matters.
Claims
We had
unapproved claims totaling $68 million at March 31, 2008 and $82 million at
December 31, 2007. The unapproved claims outstanding at March
31, 2008 and December 31, 2007 are considered to be probable of collection and
have been recognized as revenue. These unapproved claims related to
contracts where our costs have exceeded the customer’s funded value of the task
order and therefore could not be billed. We are currently working
with our customer to obtain additional funding for these claims.
In
addition, as of March 31, 2008 and December 31, 2007, we had incurred
approximately $148 million and $156 million, respectively, of costs under the
LogCAP III contract that could not be billed to the government due to lack of
appropriate funding on various task orders. These amounts were associated with
task orders that had sufficient funding in total, but the funding was not
appropriately allocated within the task order. We have submitted requests for
reallocations of funding to the U.S. Army and continue to work with them to
resolve this matter. We anticipate the negotiations will result in an
appropriate distribution of funding by the client and collection of the full
amounts due.
DCMA
system reviews
Report on
estimating system. In December 2004, the DCMA granted continued approval
of our estimating system, stating that our estimating system is “acceptable with
corrective action.” We have addressed the issues raised by the
DCMA. Specifically, based on the unprecedented level of support that
our employees are providing the military in Iraq, Kuwait, and Afghanistan, we
updated our estimating policies and procedures to make them better suited to
such contingency situations. Additionally, we have completed our development of
a detailed training program and have made it available to all estimating
personnel to ensure that employees are adequately prepared to deal with the
challenges and unique circumstances associated with a contingency
operation. We continue to address new issues as they are raised by
the DCAA.
Report on
purchasing system. As a result of a Contractor Purchasing System Review
by the DCMA during the fourth quarter of 2005, the DCMA granted the continued
approval of our government contract purchasing system. The DCMA’s October 2005
approval letter stated that our purchasing system’s policies and practices are
“effective and efficient, and provide adequate protection of the Government’s
interest.” During the fourth quarter of 2006, the DCMA granted, again, continued
approval of our government contract purchasing system.
Report on
accounting system. We received two draft reports on our accounting
system, which raised various issues and questions. We have responded to the
points raised by the DCAA, but this review remains open. In the fourth quarter
of 2006, the DCAA finalized its report and submitted it to the DCMA, who will
make a determination of the adequacy of our accounting systems for government
contracting. We have prepared an action plan considering the DCAA
recommendations and continue to meet with these agencies to discuss the ultimate
resolution. KBR’s accounting system is currently deemed acceptable for
accumulating costs incurred under US Government contracts.
SIGIR
Report
The
Special Inspector General for Iraq Reconstruction, or SIGIR, was created by
Congress to provide oversight of the Iraq Relief and Reconstruction Fund (IRRF)
and all obligations, expenditures, and revenues associated with reconstruction
and rehabilitation activities in Iraq. SIGIR reports, from time to
time, make reference to KBR regarding various matters. We believe we
have addressed all issues raised by prior SIGIR reports and we will continue to
do so as new issues are raised.
McBride
Qui Tam suit
In
September 2006, we became aware of a qui tam action filed against us by a former
employee alleging various wrongdoings in the form of overbillings of our
customer on the LogCAP III contract. This case was originally filed pending the
government’s decision whether or not to participate in the suit. In June 2006,
the government formally declined to participate. The principal allegations are
that our compensation for the provision of Morale, Welfare and Recreation
(“MWR”) facilities under LogCAP III is based on the volume of usage of those
facilities and that we deliberately overstated that usage. In accordance with
the contract, we charged our customer based on actual cost, not based on the
number of users. It was also alleged that, during the period from November 2004
into mid-December 2004, we continued to bill the customer for lunches, although
the dining facility was closed and not serving lunches. There are also
allegations regarding housing containers and our provision of services to our
employees and contractors. On July 5, 2007, the court granted our motion to
dismiss the qui tam claims and to compel arbitration of employment claims
including a claim that the plaintiff was unlawfully discharged. The
majority of the plaintiff’s claims were dismissed but the plaintiff was allowed
to pursue limited claims pending discovery and future motions. All
employment claims were sent to arbitration under the Company’s dispute
resolution program. We believe the relator’s claim is without merit and
believe the likelihood that a loss has been incurred is remote. As of
March 31, 2008, no amounts have been accrued.
Wilson
and Warren Qui Tam suit
During
November 2006, we became aware of a qui tam action filed against us alleging
that we overcharged the military $30 million by failing to adequately maintain
trucks used to move supplies in convoys and by sending empty trucks in convoys.
It was alleged that the purpose of these acts was to cause the trucks to break
down more frequently than they would if properly maintained and to unnecessarily
expose them to the risk of insurgent attacks, both for the purpose of
necessitating their replacement thus increasing our revenue. The suit also
alleges that in order to silence the plaintiffs, who allegedly were attempting
to report those allegations and other alleged wrongdoing, we unlawfully
terminated them. On February 6, 2007, the court granted our motion to dismiss
the plaintiffs’ qui tam claims as legally insufficient and ordered the
plaintiffs to arbitrate their claims that they were unlawfully discharged. The
final judgment in our favor was entered on April 30, 2007 and subsequently
appealed by the plaintiffs on May 3, 2007. We believe the relators’ claims
are without merit and believe the likelihood that a loss has been incurred is
remote. As of March 31, 2008, no amounts have been accrued.
Godfrey Qui Tam
suit
In
December 2005, we became aware of a qui tam action filed against us and several
of our subcontractors by a former employee alleging that we violated the False
Claims Act by submitting overcharges to the government for dining facility
services provided in Iraq under the LogCAP III contract. As required
by the False Claims Act, the lawsuit was filed under seal to permit the
government to investigate the allegations. In early April 2007, the
court denied the government’s motion for the case to remain under seal, and on
April 23, 2007, the government filed a notice stating that it was not
participating in the suit. In August 2007, the relator filed an
amended complaint which added an additional contract to the allegations and
added retaliation claims. We filed motions to dismiss and to compel
arbitration which were granted on March 13, 2008 for all counts except as to the
employment issues which were sent to arbitration. The relator has
filed an appeal. As formal discovery has not been undertaken, we are
unable to determine the likely outcome at this time. No amounts have
been accrued because we cannot determine any reasonable estimate of loss that
may have been incurred, if any.
Note
9. Other Commitments and Contingencies
Foreign
Corrupt Practices Act investigations
Halliburton
provided indemnification in favor of KBR under the Master Separation Agreement
for certain contingent liabilities, including Halliburton’s indemnification of
KBR and any of its greater than 50%-owned subsidiaries as of November 20, 2006,
the date of the master separation agreement, for fines or other monetary
penalties or direct monetary damages, including disgorgement, as a result of a
claim made or assessed by a governmental authority in the United States, the
United Kingdom, France, Nigeria, Switzerland and/or Algeria, or a settlement
thereof, related to alleged or actual violations occurring prior to November 20,
2006 of the FCPA or particular, analogous applicable foreign statutes, laws,
rules, and regulations in connection with investigations pending as of that date
including with respect to the construction and subsequent expansion by TSKJ of a
natural gas liquefaction complex and related facilities at Bonny Island in
Rivers State, Nigeria. The following provides a detailed discussion of the FCPA
investigation.
The SEC
is conducting a formal investigation into whether improper payments were made to
government officials in Nigeria through the use of agents or subcontractors in
connection with the construction and subsequent expansion by TSKJ of a
multibillion dollar natural gas liquefaction complex and related facilities at
Bonny Island in Rivers State, Nigeria. The DOJ is also conducting a related
criminal investigation. The SEC has also issued subpoenas seeking information
which has been furnished regarding current and former agents used in connection
with multiple projects, including current and prior projects, over the past 20
years located both in and outside of Nigeria in which we, Halliburton, The M.W.
Kellogg Company, M.W. Kellogg Limited or their or our joint ventures are or were
participants. In September 2006, the SEC requested that Halliburton, for itself
and all of its subsidiaries, enter into a tolling agreement on behalf of
Halliburton and KBR with respect to its investigation. In 2008,
Halliburton entered into tolling agreements with the SEC and the
DOJ. KBR has entered into a tolling agreement with the DOJ and
expects to enter into a tolling agreement with the SEC.
In 2007,
we and Halliburton each received a grand jury subpoena from the DOJ and
subpoenas from the SEC related to the Bonny Island project asking for
additional information on the immigration service providers used by
TSKJ. We have provided the requested documents to the DOJ and SEC and
will continue to provide Halliburton with the requested information in
accordance with the master separation agreement.
TSKJ is a
private limited liability company registered in Madeira, Portugal whose members
are Technip SA of France, Snamprogetti Netherlands B.V. (a subsidiary of Saipem
SpA of Italy), JGC Corporation of Japan, and Kellogg Brown & Root LLC (a
subsidiary of ours and successor to The M.W. Kellogg Company), each of which had
an approximately 25% interest in the venture at December 31, 2007. TSKJ and
other similarly owned entities entered into various contracts to build and
expand the liquefied natural gas project for Nigeria LNG Limited, which is owned
by the Nigerian National Petroleum Corporation, Shell Gas B.V., Cleag Limited
(an affiliate of Total), and Agip International B.V. (an affiliate of ENI SpA of
Italy). M.W. Kellogg Limited is a joint venture in which we had a 55% interest
at December 31, 2007, and M.W. Kellogg Limited and The M.W. Kellogg Company were
subsidiaries of Dresser Industries before Halliburton’s 1998 acquisition of
Dresser Industries. The M.W. Kellogg Company was later merged with a Halliburton
subsidiary to form Kellogg Brown & Root, one of our
subsidiaries.
The SEC
and the DOJ have been reviewing these matters in light of the requirements of
the FCPA. Halliburton and KBR have been cooperating with the SEC and DOJ
investigations and with other investigations into the Bonny Island project
in France, Nigeria and Switzerland. The Serious Frauds Office in the
United Kingdom is conducting an investigation relating to the Bonny Island
project and recently made contact with KBR to request limited information. Under
the master separation agreement, Halliburton will continue to oversee and direct
the investigations.
The
matters under investigation relating to the Bonny Island project cover an
extended period of time (in some cases significantly before Halliburton’s 1998
acquisition of Dresser Industries and continuing through the current time
period). We have produced documents to the SEC and the DOJ both voluntarily and
pursuant to company subpoenas from the files of numerous officers and employees
of Halliburton and KBR, including many current and former executives of
Halliburton and KBR, and we are making our employees available to the SEC and
the DOJ for interviews. In addition, we understand that the SEC has issued a
subpoena to A. Jack Stanley, who formerly served as a consultant and chairman of
Kellogg Brown & Root and to others, including certain of our current and
former employees, former executive officers and at least one of our
subcontractors. We further understand that the DOJ issued subpoenas for the
purpose of obtaining information abroad, and we understand that other partners
in TSKJ have provided information to the DOJ and the SEC with respect to the
investigations, either voluntarily or under subpoenas.
The SEC
and DOJ investigations include an examination of whether TSKJ’s engagement of
Tri-Star Investments as an agent and a Japanese trading company as a
subcontractor to provide services to TSKJ were utilized to make improper
payments to Nigerian government officials. In connection with the Bonny Island
project, TSKJ entered into a series of agency agreements, including with
Tri-Star Investments, of which Jeffrey Tesler is a principal, commencing in 1995
and a series of subcontracts with a Japanese trading company commencing in 1996.
We understand that a French magistrate has officially placed Mr. Tesler under
investigation for corruption of a foreign public official. In Nigeria, a
legislative committee of the National Assembly and the Economic and Financial
Crimes Commission, which is organized as part of the executive branch of the
government, are also investigating these matters. Our representatives have met
with the French magistrate and Nigerian officials. In October 2004,
representatives of TSKJ voluntarily testified before the Nigerian legislative
committee.
Halliburton
notified the other owners of TSKJ of information provided by the investigations
and asked each of them to conduct their own investigation. TSKJ has suspended
the receipt of services from and payments to Tri-Star Investments and the
Japanese trading company and has considered instituting legal proceedings to
declare all agency agreements with Tri-Star Investments terminated and to
recover all amounts previously paid under those agreements. In February 2005,
TSKJ notified the Attorney General of Nigeria that TSKJ would not oppose the
Attorney General’s efforts to have sums of money held on deposit in accounts of
Tri-Star Investments in banks in Switzerland transferred to Nigeria and to have
the legal ownership of such sums determined in the Nigerian courts.
As a
result of these investigations, information has been uncovered suggesting that,
commencing at least 10 years ago, members of TSKJ planned payments to Nigerian
officials. We have reason to believe, based on the ongoing investigations, that
payments may have been made by agents of TSKJ to Nigerian officials. The
government has recently confirmed that it has evidence of such
payments. The government has also recently advised Halliburton and
KBR that it has evidence of payments to Nigerian officials by another agent in
connection with a separate KBR-managed offshore project in Nigeria, and possibly
evidence of payments in connection with other projects in Nigeria. In
addition, information uncovered in the summer of 2006 suggests that, prior to
1998, plans may have been made by employees of The M.W. Kellogg Company to make
payments to government officials in connection with the pursuit of a number of
other projects in countries outside of Nigeria. Halliburton is reviewing a
number of documents related to KBR activities in countries outside of Nigeria
with respect to agents for projects after 1998. Certain of the activities
involve current or former employees or persons who were or are consultants to
us, and the investigation is continuing.
In June
2004, all relationships with Mr. Stanley and another consultant and former
employee of M.W. Kellogg Limited were terminated. The terminations occurred
because of violations of Halliburton’s Code of Business Conduct that allegedly
involved the receipt of improper personal benefits from Mr. Tesler in connection
with TSKJ’s construction of the Bonny Island project.
In 2006,
Halliburton and KBR suspended the services of another agent who, until such
suspension, had worked for us outside of Nigeria on several current projects,
including a separate KBR managed offshore project in Nigeria, and on numerous
older projects going back to the early 1980s. In addition, Halliburton suspended
the services of an additional agent on a separate current Nigerian project with
respect to which Halliburton has received from a joint venture partner on that
project allegations of wrongful payments made by such agent. Until such
time as the agents’ suspensions are favorably resolved, KBR will continue the
suspension of its use of both of the referenced agents.
A person
or entity found in violation of the FCPA could be subject to fines, civil
penalties of up to $500,000 per violation, equitable remedies, including
disgorgement (if applicable) generally of profits, including prejudgment
interest on such profits, causally connected to the violation, and injunctive
relief. Criminal penalties could range up to the greater of $2 million per
violation or twice the gross pecuniary gain or loss from the violation, which
could be substantially greater than $2 million per violation. It is possible
that both the SEC and the DOJ could assert that there have been multiple
violations, which could lead to multiple fines. The amount of any fines or
monetary penalties which could be assessed would depend on, among other factors,
the findings regarding the amount, timing, nature and scope of any improper
payments, whether any such payments were authorized by or made with knowledge of
us or our affiliates, the amount of gross pecuniary gain or loss involved, and
the level of cooperation provided the government authorities during the
investigations. Agreed dispositions of these types of violations also frequently
result in an acknowledgement of wrongdoing by the entity and the appointment of
a monitor on terms negotiated with the SEC and the DOJ to review and monitor
current and future business practices, including the retention of agents, with
the goal of assuring compliance with the FCPA. Other potential consequences
could be significant and include suspension or debarment of our ability to
contract with governmental agencies of the United States and of foreign
countries. In the first quarter of 2008, we had revenue of approximately $1.5
billion from our government contracts work with agencies of the United States or
state or local governments. If necessary, we would seek to obtain administrative
agreements or waivers from the DoD and other agencies to avoid suspension or
debarment. In addition, we may be excluded from bidding on MoD contracts in the
United Kingdom if we are convicted for a corruption offense or if the MoD
determines that our actions constituted grave misconduct. During the first
quarter of 2008, we had revenue of approximately $69 million from our government
contracts work with the MoD. Suspension or debarment from the government
contracts business would have a material adverse effect on our business, results
of operations, and cash flow.
These
investigations could also result in (1) third-party claims against us, which may
include claims for special, indirect, derivative or consequential damages, (2)
damage to our business or reputation, (3) loss of, or adverse effect on, cash
flow, assets, goodwill, results of operations, business, prospects, profits or
business value, (4) adverse consequences on our ability to obtain or continue
financing for current or future projects and/or (5) claims by directors,
officers, employees, affiliates, advisors, attorneys, agents, debt holders or
other interest holders or constituents of us or our subsidiaries. In this
connection, we understand that the government of Nigeria gave notice in 2004 to
the French magistrate of a civil claim as an injured party in that proceeding.
We are not aware of any further developments with respect to this
claim. In addition, our compliance procedures or having a monitor
required or agreed to be appointed at our cost as part of the disposition of the
investigations have resulted in a more limited use of agents on large-scale
international projects than in the past and put us at a competitive disadvantage
in pursuing such projects. Continuing negative publicity arising out of these
investigations could also result in our inability to bid successfully for
governmental contracts and adversely affect our prospects in the commercial
marketplace. In addition, we could incur costs and expenses for any monitor
required by or agreed to with a governmental authority to review our continued
compliance with FCPA law.
The
investigations by the SEC and DOJ and foreign governmental authorities are
continuing. The various governmental authorities could conclude that violations
of the FCPA or applicable analogous foreign laws have occurred with respect to
the Bonny Island project and other projects in or outside of Nigeria. In such
circumstances, the resolution or disposition of these matters, even after taking
into account the indemnity from Halliburton with respect to any liabilities for
fines or other monetary penalties or direct monetary damages, including
disgorgement, that may be assessed by the U.S. and certain foreign governments
or governmental agencies against us or our greater than 50%-owned subsidiaries
could have a material adverse effect on our business, prospects, results or
operations, financial condition and cash flow.
Under the
terms of the master separation agreement entered into in connection with the
Offering, Halliburton has agreed to indemnify us, and any of our greater than
50%-owned subsidiaries, for our share of fines or other monetary penalties or
direct monetary damages, including disgorgement, as a result of claims made or
assessed by a governmental authority of the United States, the United Kingdom,
France, Nigeria, Switzerland or Algeria or a settlement thereof relating to FCPA
Matters (as defined), which could involve Halliburton and us through The M. W.
Kellogg Company, M. W. Kellogg Limited or, their or our joint ventures in
projects both in and outside of Nigeria, including the Bonny Island, Nigeria
project. Halliburton’s indemnity will not apply to any other losses, claims,
liabilities or damages assessed against us as a result of or relating to FCPA
Matters or to any fines or other monetary penalties or direct monetary damages,
including disgorgement, assessed by governmental authorities in jurisdictions
other than the United States, the United Kingdom, France, Nigeria, Switzerland
or Algeria, or a settlement thereof, or assessed against entities such as TSKJ,
in which we do not have an interest greater than 50%.
Because
of the uncertain ultimate resolution of these matters, as of March 31, 2008, we
are unable to estimate a range of possible loss related to these matters for all
of which we believe we are indemnified.
Halliburton
incurred $1 million for expenses relating to the FCPA and bidding practices
investigations for the quarter ended March 31, 2007. We do not know the amount
of costs incurred by Halliburton following our separation from Halliburton on
April 5, 2007. Halliburton did not charge any of these costs to
us. These expenses were incurred for the benefit of both Halliburton
and us, and we and Halliburton have no reasonable basis for allocating these
costs between us. Subsequent to our separation from Halliburton and in
accordance with the Master Separation Agreement, Halliburton will continue to
bear the direct costs associated with overseeing and directing the FCPA and
bidding practices investigations. We will bear costs associated with monitoring
the continuing investigations as directed by Halliburton which include our own
separate legal counsel and advisors. For the year ended December 31, 2007, we
incurred approximately $1 million in expenses related to monitoring these
investigations. We have incurred less than $1 million in expenses
related to monitoring these investigations for the three months ended March 31,
2008.
Bidding
practices investigation
In
connection with the investigation into payments relating to the Bonny Island
project in Nigeria, information has been uncovered suggesting that Mr. Stanley
and other former employees may have engaged in coordinated bidding with one or
more competitors on certain foreign construction projects, and that such
coordination possibly began as early as the mid-1980s.
On the
basis of this information, Halliburton and the DOJ have broadened their
investigations to determine the nature and extent of any improper bidding
practices, whether such conduct violated United States antitrust laws, and
whether former employees may have received payments in connection with bidding
practices on some foreign projects.
If
violations of applicable United States antitrust laws occurred, the range of
possible penalties includes criminal fines, which could range up to the greater
of $10 million in fines per count for a corporation, or twice the gross
pecuniary gain or loss, and treble civil damages in favor of any persons
financially injured by such violations. Criminal prosecutions under applicable
laws of relevant foreign jurisdictions and civil claims by or relationship
issues with customers are also possible.
The
results of these investigations may have a material adverse effect on our
business and results of operations. As of March 31, 2008, we are unable to
estimate a range of possible loss related to these matters.
Barracuda-Caratinga
project arbitration
In June
2000, we entered into a contract with Barracuda & Caratinga Leasing Company
B.V., the project owner, to develop the Barracuda and Caratinga crude oilfields,
which are located off the coast of Brazil. We have recorded losses on
the project of $19 million and $8 million for the years ended December 31, 2006
and 2005, respectively. No losses have been recorded on the project since
2006. We have been in negotiations with the project owner since 2003
to settle the various issues that have arisen and have entered into several
agreements to resolve those issues.
In April
2006, we executed an agreement with Petrobras that enabled us to achieve
conclusion of the Lenders’ Reliability Test and final acceptance of the FPSOs.
These acceptances eliminated any further risk of liquidated damages being
assessed. In November 2007, we executed a settlement agreement with
the project owner to settle all outstanding project issues except for the bolts
arbitration discussed below. The agreement resulted in the project
owner assuming substantially all remaining work on the project and the release
of us from any further warranty obligations. The settlement agreement
did not have a material impact to our results of operations or financial
position.
At
Petrobras’ direction, we replaced certain bolts located on the subsea flowlines
that have failed through mid-November 2005, and we understand that additional
bolts have failed thereafter, which have been replaced by Petrobras. These
failed bolts were identified by Petrobras when it conducted inspections of the
bolts. The original design specification for the bolts was issued by Petrobras,
and as such, we believe the cost resulting from any replacement is not our
responsibility. In March 2006, Petrobras notified us that they have submitted
this matter to arbitration claiming $220 million plus interest for the cost of
monitoring and replacing the defective stud bolts and, in addition, all of the
costs and expenses of the arbitration including the cost of attorneys
fees. We do not believe that it is probable that we have incurred a
liability in connection with the claim in the bolt arbitration with Petrobras
and therefore, no amounts have been accrued. We disagree with Petrobras’ claim
since the bolts met the design specification provided by
Petrobras. Although we believe Petrobras is responsible for any
maintenance and replacement of the bolts, it is possible that the arbitration
panel could find against us on this issue. In addition, Petrobras has
not provided any evidentiary support or analysis for the amounts claimed as
damages. A preliminary hearing on legal and factual issues relating
to liability with the arbitration panel was held in April 2008. The
final arbitration hearings have not yet been scheduled. Therefore, at
this time, we cannot conclude that the likelihood that a loss has been incurred
is remote. Due to the indemnity from Halliburton, we believe any
outcome of this matter will not have a material adverse impact to our operating
results or financial position. KBR incurred legal fees and related
expenses of $4 million in 2007, related to this matter. For the three
months ended March 31, 2008 KBR has incurred less than $1 million in legal fees
and related expenses related to this matter.
Under the
master separation agreement, Halliburton has agreed to indemnify us and any of
our greater than 50%-owned subsidiaries as of November 2006, for all
out-of-pocket cash costs and expenses (except for ongoing legal costs), or cash
settlements or cash arbitration awards in lieu thereof, we may incur after the
effective date of the master separation agreement as a result of the replacement
of the subsea flowline bolts installed in connection with the
Barracuda-Caratinga project.
Improper
payments reported to the SEC
During
the second quarter of 2002, we reported to the SEC that one of our foreign
subsidiaries operating in Nigeria made improper payments of approximately $2.4
million to entities owned by a Nigerian national who held himself out as a tax
consultant, when in fact he was an employee of a local tax authority. The
payments were made to obtain favorable tax treatment and clearly violated our
Code of Business Conduct and our internal control procedures. The payments were
discovered during our audit of the foreign subsidiary. We conducted an
investigation assisted by outside legal counsel, and, based on the findings of
the investigation, we terminated several employees. None of our senior officers
were involved. We are cooperating with the SEC in its review of the matter. We
took further action to ensure that our foreign subsidiary paid all taxes owed in
Nigeria. During 2003, we filed all outstanding tax returns and paid
the associated taxes.
Iraq
overtime litigation
During
the fourth quarter of 2005, a group of present and former employees working on
the LogCAP contract in Iraq and elsewhere filed a class action lawsuit alleging
that KBR wrongfully failed to pay time and a half for hours worked in excess of
40 per work week and that “uplift” pay, consisting of a foreign service bonus,
an area differential, and danger pay, was only applied to the first 40 hours
worked in any work week. The class alleged by plaintiffs consists of all current
and former employees on the LogCAP contract from December 2001 to present. The
basis of plaintiffs’ claims is their assertion that they are intended third
party beneficiaries of the LogCAP contract and that the LogCAP contract
obligated KBR to pay time and a half for all overtime hours. We have moved to
dismiss the case on a number of bases. On September 26, 2006, the court granted
the motion to dismiss insofar as claims for overtime pay and “uplift” pay are
concerned, leaving only a contractual claim for miscalculation of employees’
pay. In the fourth quarter of 2007, the class action lawsuit
was withdrawn by the plaintiffs.
Environmental
We are
subject to numerous environmental, legal and regulatory requirements related to
our operations worldwide. In the United States, these laws and regulations
include, among others:
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the
Comprehensive Environmental Response, Compensation and Liability
Act;
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the
Resources Conservation and Recovery
Act;
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the
Federal Water Pollution Control Act;
and
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the
Toxic Substances Control Act.
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In
addition to the federal laws and regulations, states and other countries where
we do business often have numerous environmental, legal and regulatory
requirements by which we must abide. We evaluate and address the
environmental impact of our operations by assessing and remediating contaminated
properties in order to avoid future liabilities and by complying with
environmental, legal and regulatory requirements. On occasion, we are
involved in specific environmental litigation and claims, including the
remediation of properties we own or have operated as well as efforts to meet or
correct compliance-related matters. We make estimates of the amount
of costs associated with known environmental contamination that we will be
required to remediate and record accruals to recognize those estimated
liabilities. Our estimates are based on the best available
information and are updated whenever new information becomes
known. For certain locations, including our property at Clinton
Drive, we have not completed our analysis of the site conditions and until
further information is available, we are only able to estimate a possible range
of remediation costs. This range of costs could change depending on
our ongoing site analysis and the timing and techniques used to implement
remediation activities. We do not expect costs related to
environmental matters will have a material adverse effect on our consolidated
financial position or our results of operations. At March 31, 2008
our accrual for the estimated assessment and remediation costs associated with
all environmental matters was approximately $7 million, which represents the low
end of the range of possible costs that could be as much as $15
million.
Letters
of credit
In
connection with certain projects, we are required to provide letters of credit,
surety bonds or other financial and performance guarantees to our customers. As
of March 31, 2008, we had approximately $1 billion in letters of credit and
financial guarantees outstanding, of which $485 million were issued under our
Revolving Credit Facility. Approximately $499 million of these letters of credit
were issued under various facilities and are irrevocably and unconditionally
guaranteed by Halliburton.
In
addition, we and Halliburton have agreed that until December 31, 2009,
Halliburton will issue additional guarantees, indemnification and reimbursement
commitments for our benefit in connection with (a) letters of credit necessary
to comply with our EBIC contract, our Allenby & Connaught project and all
other contracts that were in place as of December 15, 2005; (b) surety bonds
issued to support new task orders pursuant to the Allenby & Connaught
project, two job order contracts for our G&I business unit and all other
contracts that were in place as of December 25, 2005; and (c) performance
guarantees in support of these contracts. Each credit support instrument
outstanding at November 20, 2006, the time of our initial public offering, and
any additional guarantees, indemnification and reimbursement commitments will
remain in effect until the earlier of: (1) the termination of the underlying
project contract or our obligations thereunder or (2) the expiration of the
relevant credit support instrument in accordance with its terms or release of
such instrument by our customer. In addition, we have agreed to use our
reasonable best efforts to attempt to release or replace Halliburton’s liability
under the outstanding credit support instruments and any additional credit
support instruments relating to our business for which Halliburton may become
obligated for which such release or replacement is reasonably available. For so
long as Halliburton or its affiliates remain liable with respect to any credit
support instrument, we have agreed to pay the underlying obligation as and when
it becomes due. Furthermore, we agreed to pay to Halliburton a quarterly carry
charge for its guarantees of our outstanding letters of credit and surety bonds
and agreed to indemnify Halliburton for all losses in connection with the
outstanding credit support instruments and any new credit support instruments
relating to our business for which Halliburton may become obligated following
the separation. We currently pay an annual fee to Halliburton calculated at
0.40% of the outstanding performance-related letters of credit and 0.80% of the
outstanding financial-related letters of credit guaranteed by
Halliburton. Effective January 1, 2010, the annual fee increases to
0.90% and 1.65% of the outstanding performance-related and financial-related
outstanding issued letters of credit, respectively.
During
the second quarter of 2007, a £20 million letter of credit was issued on our
behalf by a bank in connection with our Allenby & Connaught
project. The letter of credit supports a building contract guarantee
executed between KBR and certain project joint venture company to provide
additional credit support as a result of our separation from
Halliburton. The letter of credit issued by the bank is guaranteed by
Halliburton.
Other
commitments
As of
March 31, 2008, we had commitments to provide funds of $116 million to related
companies, including $108 million related to our privately financed projects. As
of December 31, 2007, these commitments were approximately $121 million,
including $113 million to fund our privately financed projects. These
commitments arose primarily during the start-up of these entities or due to
losses incurred by them. At March 31, 2008, approximately $28 million of the
$116 million commitments are current.
Liquidated
damages
Many of
our engineering and construction contracts have milestone due dates that must be
met or we may be subject to penalties for liquidated damages if claims are
asserted and we were responsible for the delays. These generally relate to
specified activities within a project by a set contractual date or achievement
of a specified level of output or throughput of a plant we construct. Each
contract defines the conditions under which a customer may make a claim for
liquidated damages. However, in most instances, liquidated damages are not
asserted by the customer, but the potential to do so is used in negotiating
claims and closing out the contract. We had not accrued for liquidated damages
of $26 million and $28 million at March 31, 2008 and December 31, 2007,
respectively (including amounts related to our share of unconsolidated
subsidiaries), that we could incur based upon completing the projects as
forecasted.
Leases
We are
obligated under operating leases, principally for the use of land, offices,
equipment, field facilities, and warehouses. We recognize minimum rental
expenses over the term of the lease. When a lease contains a fixed escalation of
the minimum rent or rent holidays, we recognize the related rent expense on a
straight-line basis over the lease term and record the difference between the
recognized rental expense and the amounts payable under the lease as deferred
lease credits. We have certain leases for office space where we receive
allowances for leasehold improvements. We capitalize these leasehold
improvements as property, plant, and equipment and deferred lease credits.
Leasehold improvements are amortized over the shorter of their economic useful
lives or the lease term.
Note
10. Income Taxes
Our
effective tax rate for the three months ended March 31, 2008 and March 31, 2007
was approximately 36% and 47%, respectively. Our effective tax rate
for the first quarter of 2008 exceeded our statutory rate of 35% primarily due
to not receiving a tax benefit for operating losses incurred on our railroad
investment in Australia, and state and other taxes. Our effective tax
rate for the first quarter of 2007 exceeded our statutory rate of 35% primarily
due to not receiving a tax benefit for a portion of our impairment charge
related to our investment in BRC, operating losses from our railroad investment
in Australia, and state and other taxes. Our effective tax rate for
continuing operations for 2008 is forecasted to be approximately
38%.
KBR is
the parent of a group of our domestic companies which are in the U.S.
consolidated federal income tax return of Halliburton through April 5, 2007, the
date of our separation from Halliburton. We also file income tax returns in
various states and foreign jurisdictions. With few exceptions, we are
no longer subject to examinations by tax authorities for U.S. federal or state
or local income tax for years before 2003, or non-U.S. income tax for years
before 1998.
Prior to
the separation from Halliburton, income tax expense for KBR, Inc. was calculated
on a pro rata basis. Under this method, income tax expense was determined
based on KBR, Inc. operations and their contributions to income tax expense of
the Halliburton consolidated group. For the period post separation from
Halliburton, income tax expense is calculated on a stand alone
basis.
Note
11. Fair Value Measurements
In
September 2006, the FASB issued Statement of Financial Accounting Standards
(“SFAS”) No. 157, “Fair Value Measurements” (“SFAS 157”). This statement defines
fair value, establishes a framework for using fair value to measure assets and
liabilities, and expands disclosures about fair value measurements. The
statement applies whenever other statements require or permit assets or
liabilities to be measured at fair value. SFAS 157 is effective for interim
periods and fiscal years beginning after November 15, 2007. In
February 2008, the FASB issued FASB Staff Position No. 157-2 that provides for a
one-year deferral for the implementation of SFAS 157 for non-financial assets
and liabilities. SFAS 157 does not require any new fair value
measurements, but rather, it provides enhanced guidance to other pronouncements
that require or permit assets or liabilities to be measured at fair
value.
With its
disclosure requirements, SFAS 157 establishes a three-tier value hierarchy,
categorizing the inputs used to measure fair value. The hierarchy can be
described as follows: (Level 1) observable inputs such as quoted prices in
active markets; (Level 2) inputs other than the quoted prices in active markets
that are observable either directly or indirectly; and (Level 3) unobservable
inputs in which there is little or no market data, which require the reporting
entity to develop its own assumptions.
The
financial assets and liabilities measured at fair value on a recurring basis are
included below:
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|
|
|
Fair Value Measurements at Reporting Date
Using
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|
|
In
millions
|
March 31,2008
|
|
Quoted Prices in Active
Markets for Identical
Assets (Level 1)
|
|
Significant Other
Observable Inputs
(Level 2)
|
|
Significant
Unobservable Inputs
(Level 3)
|
|
|
Derivative
assets
|
|
$ |
7 |
|
|
$ |
- |
|
|
$ |
7 |
|
|
$ |
- |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivative
liabilities
|
|
$ |
4 |
|
|
$ |
- |
|
|
$ |
4 |
|
|
$ |
- |
|
We manage
our currency exposures through the use of foreign currency derivative
instruments denominated in our major currencies, which are generally the
currencies of the countries for which we do the majority of our international
business. We utilize derivative instruments to manage the foreign
currency exposures related to specific assets and liabilities that are
denominated in foreign currencies, and to manage forecasted cash flows
denominated in foreign currencies generally related to long-term engineering and
construction projects. The purpose of our foreign currency risk
management activities is to protect us from the risk that the eventual dollar
cash flow resulting from the sale and purchase of products and services in
foreign currencies will be adversely affected by changes in exchange
rates. The currency derivative instruments are carried on the
condensed consolidated balance sheet at fair value and are based upon market
observable inputs.
Note
12. Equity Method Investments and Variable Interest
Entities
We
conduct some of our operations through joint ventures which are in partnership,
corporate, undivided interest and other business forms and are principally
accounted for using the equity method of accounting.
Brown & Root
Condor Spa (“BRC”). BRC was a joint venture in which we sold our 49%
interest and other rights in BRC in the third quarter of 2007, to Sonatrach for
approximately $24 million, resulting in a pre-tax gain of approximately $18
million. In the first quarter of 2007, we recorded an $18 million
impairment charge of which $16 million was classified as “Equity in earnings
(losses) of unconsolidated affiliates” and $2 million as a component of “Cost of
services” in our condensed consolidated statements of income. During
the first quarter of 2007, we billed approximately $2 million of services to
BRC, which we expensed as a component of “Cost of services”.
Roads
project. During the first quarter of 2008, we acquired an
additional 8% interest in a joint venture related to one of our privately
financed projects to design, build, operate, and maintain roadways for certain
government agencies in the United Kingdom. The additional interest
was purchased from an existing shareholder for approximately $8 million in
cash. As of March 31, 2008, we owned a 33% interest in the joint
venture. The joint venture is considered a variable interest entity;
however, we are not the primary beneficiary. We continue to account
for this investment using the equity method of accounting. In April
2008, we completed the sale of the additional 8% interest in the joint venture
to an unrelated party for approximately $9 million.
Note
13. Retirement Plans
In
September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements
No. 87, 88, 106, and 132(R).” SFAS No. 158 requires an employer to:
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•
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recognize
on its balance sheet the funded status (measured as the difference between
the fair value of plan assets and the benefit obligation) of pension and
other postretirement benefit plans;
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•
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recognize,
through comprehensive income, certain changes in the funded status of a
defined benefit and postretirement plan in the year in which the changes
occur;
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•
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measure
plan assets and benefit obligations as of the end of the employer’s fiscal
year; and
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•
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disclose
additional information.
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The
requirement to recognize the funded status of a benefit plan and the additional
disclosure requirements were effective for fiscal years ending after December
15, 2006. Accordingly, we adopted the recognition and disclosure provisions of
SFAS No. 158, prospectively, on December 31, 2006. The requirement to measure
plan assets and benefit obligations as of the date of the employer’s fiscal
year-end is effective for fiscal years ending after December 15, 2008. We have
transitioned to a fiscal year-end measurement date by continuing to use the
measurements determined for the prior fiscal year-end reporting to estimate the
effects of the change in lieu of remeasuring plan assets benefit obligations as
of the beginning of the year. As such, the adoption on January 1,
2008, of the measurement date change requirements resulted in a $1 million
charge, net of tax to beginning retained earnings.
The
components of net periodic benefit cost related to pension benefits for the
three months ended March 31, 2008 and 2007 were as follows:
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Three Months Ended
March 31,
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2008
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2007 (1)
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|
Millions of dollars
|
|
United States
|
|
|
International
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|
|
United States
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|
|
International
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|
|
|
|
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|
|
|
|
|
|
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Components
of net periodic benefit cost:
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|
|
|
|
|
|
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Service
cost
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$ |
- |
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|
$ |
2 |
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|
$ |
- |
|
|
$ |
2 |
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|
Interest
cost
|
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|
1 |
|
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|
25 |
|
|
|
1 |
|
|
|
21 |
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|
Expected
return on plan assets
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|
(1 |
) |
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|
(28 |
) |
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|
(1 |
) |
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|
(24 |
) |
|
(Gain)/
loss amortization
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|
|
- |
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3 |
|
|
|
- |
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|
|
- |
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|
Recognized actuarial loss
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|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
5 |
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|
Net periodic benefit cost
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|
$ |
- |
|
|
$ |
2 |
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|
$ |
- |
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|
$ |
4 |
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|
|
(1)
|
The components of net periodic
benefit cost for the prior period exclude pension benefits associated with
DML, which was sold in the second quarter of 2007 and is accounted for as
discontinued operations.
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For the
three months ended March 31, 2008, we contributed $59 million of the $76 million
we currently expect to contribute in 2008 to our international
plans. This contribution amount includes a payment of approximately
$54 million to the Kellogg, Brown & Root (UK) Limited Pension Plan, related
to a February 2008 agreement-in-principle regarding partial deficit funding for
this Plan. We do not have a required minimum contribution for
our domestic plans. For the three months ended March 31, 2008, we
contributed $1 million of the $2 million, we currently expect to contribute to
our domestic plans in 2008.
The
components of net periodic benefit cost related to other postretirement benefits
were immaterial for the three months ended March 31, 2008 and 2007.
Note
14. Reorganization of Business Operations
In the
fourth quarter of 2006, we committed to a restructuring plan that included broad
based headcount reductions deemed necessary to reduce overhead and better
position us for the future. In connection with this reorganization, we recorded
restructuring charges totaling $5 million for severance, incentives, and other
employee benefit costs for personnel whose employment was involuntarily
terminated. These termination benefits were offered to 139 personnel, with 66
receiving enhanced termination benefits. The terminated personnel were located
in the United States and the United Kingdom. Of this amount, $1 million
related to our G&I business unit, $1 million to our Upstream business unit
and $3 million to general corporate employees. The restructuring
charge was included in “General and administrative” in the statements of income
for the year ended December 31, 2006. During the first quarter of 2007,
approximately $2 million of the termination benefits were paid. The
remaining balance in the restructuring reserve account included in “Accounts
payable” was $3 million as of March 31, 2007.
During
the remainder of 2007, approximately $2 million of the remaining termination
benefits were paid. Of the total $4 million in termination benefits paid,
approximately $1 million related to our G&I business unit, $1 million to our
Upstream business unit, and $2 million to general corporate
employees. As of December 31, 2007, all amounts related to the 2006
restructuring had been paid and the balance in the restructuring reserve account
included in “Accounts payable” on the consolidated balance sheet was
zero.
In the
fourth quarter of 2007, we initiated a restructuring whereby we committed to a
minor headcount reduction and ceased using certain leased office
space. In connection with this restructuring we recorded
charges totaling approximately $5 million of which the majority related to a
vacated lease, previously utilized by our G&I division in
Arlington. This amount was included in “Cost of services” in our
statements of income for the year ended December 31, 2007. Less than
$1 million consists of standard termination benefits payable to a limited number
of corporate and division employees. These termination costs were included
in “General and Administrative” in our statements of income for the year ended
December 31, 2007. The amounts recorded represent the total amounts
expected to be incurred in connection with these activities. During
the first quarter of 2008 a portion of the vacated lease charges were amortized
and a portion of the termination benefits were paid, each less than $1
million. The remaining balance in connection with this restructuring
reserve was approximately $5 million at March 31, 2008.
Note
15. Related Party
In
connection with our initial public offering in November 2006 and the separation
of our business from Halliburton, we entered into various agreements with
Halliburton including, among others, a master separation agreement, tax
sharing agreement, transition services agreements and an employee matters
agreement.
Pursuant
to our master separation agreement, we agreed to indemnify Halliburton for,
among other matters, all past, present and future liabilities related to our
business and operations, subject to specified exceptions. We agreed to indemnify
Halliburton for liabilities under various outstanding and certain additional
credit support instruments relating to our businesses and for liabilities under
litigation matters related to our business. Halliburton agreed to indemnify us
for, among other things, liabilities unrelated to our business, for certain
other agreed matters relating to the Foreign Corrupt Practices Act (“FCPA”)
investigations and the Barracuda-Caratinga project and for other litigation
matters related to Halliburton’s business. See Note 9 for a further discussion
of the FCPA investigations and the Barracuda-Caratinga project.
The tax
sharing agreement, as amended, provides for certain allocations of U.S. income
tax liabilities and other agreements between us and Halliburton with respect to
tax matters. As a result of the Offering, Halliburton will be responsible for
filing all U.S. income tax returns required to be filed through April 5, 2007,
the date KBR ceased to be a member of the Halliburton consolidated tax group.
Halliburton will also be responsible for paying the taxes related to the returns
it is responsible for filing. We will pay Halliburton our allocable share of
such taxes. We are obligated to pay Halliburton for the utilization of net
operating losses, if any, generated by Halliburton prior to the deconsolidation
which we may use to offset our future consolidated federal income tax
liabilities.
Under the
transition services agreements, Halliburton is expected to continue providing
various interim corporate support services to us and we will continue to provide
various interim corporate support services to Halliburton. These support
services relate to, among other things, information technology, legal, human
resources, risk management and internal audit. The services provided under
the transition services agreement between Halliburton and KBR are substantially
the same as the services historically provided. Similarly, the related costs of
such services will be substantially the same as the costs incurred and recorded
in our historical financial statements. As of December 31, 2007, most of
the corporate service activities have been discontinued and primarily related to
human resources and risk management. In 2008, the only significant
corporate service activities relate to fees for ongoing guarantees provided by
Halliburton on existing credit support instruments which have not yet
expired.
The
employee matters agreement provides for the allocation of liabilities and
responsibilities to our current and former employees and their participation in
certain benefit plans maintained by Halliburton. Among other items, the employee
matters agreement and the KBR, Inc. Transitional Stock Adjustment Plan provide
for the conversion, upon the complete separation of KBR from Halliburton,
of stock options and restricted stock awards (with restrictions that have not
yet lapsed as of the final separation date) granted to KBR employees under
Halliburton’s 1993 Stock and Incentive Plan (“1993 Plan”) to stock options
and restricted stock awards covering KBR common stock. On April 5, 2007,
immediately after our separation from Halliburton, the conversion of such stock
options and restricted stock awards occurred.
In
connection with certain projects, we are required to provide letters of credit,
surety bonds or other financial and performance guarantees to our customers. As
of March 31, 2008, we had approximately $1 billion in letters of
credit and financial guarantees outstanding of which $468 million related to our
joint venture operations, including $205 million issued in connection with the
Allenby & Connaught project. Of the total $1 billion,
approximately $499 million in letters of credit were irrevocably and
unconditionally guaranteed by Halliburton. In addition, Halliburton
has guaranteed surety bonds and provided direct guarantees primarily related to
our performance. Under certain reimbursement agreements, if we were unable to
reimburse a bank under a paid letter of credit and the amount due is paid by
Halliburton, we would be required to reimburse Halliburton for any amounts drawn
on those letters of credit or guarantees in the future. The
Halliburton performance guarantees and letter of credit guarantees that are
currently in place in favor of KBR’s customers or lenders will continue
until the earlier of (a) the termination of the underlying project contract or
KBR’s obligations thereunder or (b) the expiration of the relevant credit
support instrument in accordance with its terms or release of such instrument by
the customer. Furthermore, we agreed to pay to Halliburton a quarterly carry
charge for its guarantees of our outstanding letters of credit and surety bonds
and agreed to indemnify Halliburton for all losses in connection with the
outstanding credit support instruments and any new credit support instruments
relating to our business for which Halliburton may become obligated following
the separation. We currently pay an annual fee to Halliburton calculated at
0.40% of the outstanding performance-related letters of credit and 0.80% of the
outstanding financial-related letters of credit guaranteed by
Halliburton. Effective January 1, 2010, the annual fee increases to
0.90% and 1.65% of the outstanding performance-related and financial-related
outstanding issued letters of credit, respectively.
At March
31, 2008 and December 31, 2007, we had a $13 million and $16 million,
respectively, balance payable to Halliburton which consists of amounts we owe
Halliburton for estimated outstanding income taxes, amounts owed pursuant to our
transition services agreement and other amounts. The balances for
these related party transactions are reflected in the consolidated balance
sheets as “Due to Halliburton, net”.
All of
the charges described above have been included as costs of our operations in
these condensed consolidated statements of income. It is possible that the terms
of these transactions may differ from those that would result from transactions
among third parties.
We
perform many of our projects through incorporated and unincorporated joint
ventures. In addition to participating as a joint venture partner, we often
provide engineering, procurement, construction, operations or maintenance
services to the joint venture as a subcontractor. Where we provide services to a
joint venture that we control and therefore consolidate for financial reporting
purposes, we eliminate intercompany revenues and expenses on such transactions.
In situations where we account for our interest in the joint venture under the
equity method of accounting, we do not eliminate any portion of our revenues or
expenses. We recognize the profit on our services provided to joint ventures
that we consolidate and joint ventures that we record under the equity method of
accounting primarily using the percentage-of-completion method. Total revenue
from services provided to our unconsolidated joint ventures recorded in our
consolidated statements of income were $53 million and $109 million for the
quarters ended March 31, 2008 and 2007, respectively. Profit on transactions
with our joint ventures recognized in our consolidated statements of income was
$8 million for the quarter ended March 31, 2008 and $11 million for the quarter
ended March 31, 2007.
Note
16. New Accounting Standards
In June
2007, the FASB ratified EITF 06-11, “Accounting for Income Tax Benefits of
Dividends on Share-Based Payment Awards” (“EITF 06-11”). EITF 06-11
provides that tax benefits associated with dividends or dividend equivalents
that are charged to retained earnings on certain share-based payment awards be
recorded as a component of additional paid-in capital. EITF 06-11 is
effective, on a prospective basis, for fiscal years beginning after December 15,
2007. The adoption of EITF 06-11 did not have a material impact on
our financial position, results of operations and cash flows.
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities-Including an amendment of FASB
Statement No. 115,” (“SFAS 159”). SFAS 159 provides companies with an
option to measure certain financial instruments and other items at fair value
with changes in fair value reported in earnings. SFAS 159 is effective for
fiscal years beginning after November 15, 2007. Most of the
provisions of SFAS 159 apply only to entities that elect the fair value
option. However, the amendment to FASB Statement No. 115, “Accounting
for Certain Investments in Debt and Equity Securities”, applies to all entities
with available-for-sale and trading securities. We have not elected
to exercise the fair value irrevocable option and as such, the adoption of this
Statement did not have a material impact on our financial position, results of
operations and cash flows.
In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments
and Hedging Activities an amendment of FASB Statement No. 133,” (“SFAS
161”). SFAS 161 requires enhanced disclosures about an entity’s
derivative and hedging activities. Entities are required to provide
enhanced disclosures about (a) how and why an entity uses derivative
instruments, (b) how derivative instruments and related hedged items are
accounted for under Statement 133 and its related interpretations, and (c) how
derivative instruments and related hedged items are affect an entity’s financial
position, financial performance and cash flows. SFAS 161 is effective
for fiscal years beginning after November 15, 2008. The adoption of
this Statement will not have an impact on our financial position, results of
operations or cash flows.
In April
2008, the FASB issued FASB Staff Position (FSP) FAS 142-3, “Determination of the
Useful Life of Intangible Assets.” This FSP amends the factors that should be
considered in developing renewal or extension assumptions used to determine the
useful life of a recognized intangible asset under FASB Statement No. 142,
“Goodwill and Other Intangible Assets.” The intent of this FSP is to improve the
consistency between the useful life of a recognized intangible asset under
Statement 142 and the period of expected cash flows used to measure the fair
value of the asset under FASB Statement No. 141 (Revised 2007), “Business
Combinations,” and other U.S. generally accepted accounting principles (GAAP).
This FSP is effective for financial statements issued for fiscal years beginning
after December 15, 2008, and interim periods within those fiscal years. Early
adoption is prohibited. We are currently evaluating the impact the adoption
of this FSP will have on our financial position, results of operations or cash
flows.
Note
17. Discontinued Operations
In May
2006, we completed the sale of our Production Services group, which was part of
our Services business unit. The Production Services group delivers a range of
support services, including asset management and optimization; brownfield
projects; engineering; hook-up, commissioning and start-up; maintenance
management and execution; and long-term production operations, to oil and gas
exploration and production customers. In connection with the sale, we received
net proceeds of $265 million. The sale of Production Services resulted in a
pre-tax gain of approximately $120 million in the year ended December 31, 2006.
During the first quarter of 2007, we settled certain claims and provided an
allowance against certain receivables from the Production Services group
resulting in a charge of approximately $2 million, net of
tax.
On June
28, 2007, we completed the disposition of our 51% interest in DML to Babcock
International Group plc. DML owns and operates Devonport Royal Dockyard, one of
Western Europe’s largest naval dockyard complexes. Our DML operations, which was
part of our G&I business unit, primarily involved refueling nuclear
submarines and performing maintenance on surface vessels for the U.K. Ministry
of Defence as well as limited commercial projects. In connection with the sale,
we received $345 million in cash proceeds, net of direct transaction costs for
our 51% interest in DML. The sale of DML resulted in a gain of approximately
$101 million, net of tax of $115 million in the year ended December 31,
2007.
In
accordance with the provisions of SFAS No. 144, “Accounting for Impairment
or Disposal of Long-Lived Assets,” the results of operations of the Production
Services group and DML for the current and prior periods have been reported as
discontinued operations. At March 31, 2008, the condensed consolidated balance
sheet consisted of $8 million in Other current liabilities related to
discontinued operations. At December 31, 2007, the condensed
consolidated balance sheet consisted of $1 million in current assets related to
discontinued operations related to Notes and accounts receivable, and $1 million
in Other current liabilities related to discontinued
operations.
The
consolidated operating results of our Production Services group and DML, which
are classified as discontinued operations in our consolidated statements of
income, are summarized in the following table:
|
|
|
Three Months Ended
March 31,
|
|
|
Millions
of dollars
|
|
2008
|
|
|
2007
|
|
|
Revenue
|
|
$ |
- |
|
|
$ |
224 |
|
|
Operating
profit
|
|
$ |
- |
|
|
$ |
11 |
|
|
Pretax
income
|
|
$ |
- |
|
|
$ |
6 |
|
The
operating results of DML, which are classified as discontinued operations, and
included in our consolidated operating results table above, are summarized in
the following table:
|
|
|
Three Months Ended
March 31,
|
|
|
Millions
of dollars
|
|
2008
|
|
|
2007
|
|
|
Revenue
|
|
$ |
- |
|
|
$ |
224 |
|
|
Operating
profit
|
|
$ |
- |
|
|
$ |
15 |
|
|
Pretax
income
|
|
$ |
- |
|
|
$ |
10 |
|
Note
18. Subsequent Events
In April
2008, we acquired Turnaround Group of Texas, Inc. (“TGI”) and Catalyst
Interactive. TGI is a Houston-based turnaround management and
consulting company that specializes in the planning and execution of turnarounds
and outages in the petrochemical, power, and pulp & paper
industries. Catalyst Interactive is an Australian e-learning and
training solution provider that specializes in the defense, government and
industry training sectors. The total purchase consideration for these
two stock purchase transactions totaled approximately $14 million subject to
certain indemnification, working capital and contingent consideration
holdbacks.
Item 2. Management’s Discussion and Analysis of
Financial Condition and Results of Operations
The
purpose of management’s discussion and analysis (“MD&A”) is to increase the
understanding of the reasons for material changes in our financial condition
since the most recent fiscal year-end and results of operations during the
current fiscal period as compared to the corresponding period of the preceding
fiscal year. The MD&A should be read in conjunction with the
condensed consolidated financial statements and accompanying notes and our 2007
Annual Report on Form 10-K.
Revisions
We
reclassified certain overhead expenses in our prior period statements of income
previously recorded as cost of services to general and administrative expense in
our statements of income. These expenses relate to certain overhead
expenses and indirect costs that were previously managed and reported within our
business units but are now managed and reported at a corporate
level. These expenses were reclassified to allow transparency of
business unit margins and general and administrative expense consistent with the
nature of the underlying costs and the manner in which the costs are
managed. See Note 1 to the condensed consolidated financial
statements for further discussion of this reclassification.
Separation from
Halliburton
On
February 26, 2007, Halliburton’s board of directors approved a plan under which
Halliburton would dispose of its remaining interest in KBR through a tax-free
exchange with Halliburton’s stockholders pursuant to an exchange offer. On April
5, 2007, Halliburton completed the separation of KBR by exchanging the
135,627,000 shares of KBR owned by Halliburton for publicly held shares of
Halliburton common stock pursuant to the terms of the exchange offer (the
“Exchange Offer”) commenced by Halliburton on March 2, 2007.
In
connection with our initial public offering in November 2006 and the separation
of our business from Halliburton, we entered into various agreements with
Halliburton including, among others, a master separation agreement, tax
sharing agreement, transition services agreements and an employee matters
agreement.
Pursuant
to our master separation agreement, we agreed to indemnify Halliburton for,
among other matters, all past, present and future liabilities related to our
business and operations, subject to specified exceptions. We agreed to indemnify
Halliburton for liabilities under various outstanding and certain additional
credit support instruments relating to our businesses and for liabilities under
litigation matters related to our business. Halliburton agreed to indemnify us
for, among other things, liabilities unrelated to our business, for certain
other agreed matters relating to the Foreign Corrupt Practices Act (“FCPA”)
investigations and the Barracuda-Caratinga project and for other litigation
matters related to Halliburton’s business. See Note 9 to our condensed
consolidated financial statements for a further discussion of the FCPA
investigations and the Barracuda-Caratinga project.
The tax
sharing agreement, as amended, provides for certain allocations of U.S. income
tax liabilities and other agreements between us and Halliburton with respect to
tax matters. As a result of the Offering, Halliburton will be responsible for
filing all U.S. income tax returns required to be filed through April 5, 2007,
the date KBR ceased to be a member of the Halliburton consolidated tax group.
Halliburton will also be responsible for paying the taxes related to the returns
it is responsible for filing. We will pay Halliburton our allocable share of
such taxes. We are obligated to pay Halliburton for the utilization of net
operating losses, if any, generated by Halliburton prior to the deconsolidation
which we may use to offset our future consolidated federal income tax
liabilities.
Under the
transition services agreements, Halliburton is expected to continue providing
various interim corporate support services to us and we will continue to provide
various interim corporate support services to Halliburton. These support
services relate to, among other things, information technology, legal, human
resources, risk management and internal audit. The services provided under the
transition services agreement between Halliburton and KBR are substantially the
same as the services historically provided. Similarly, the related costs of such
services will be substantially the same as the costs incurred and recorded in
our historical financial statements. As of December 31, 2007, most of the
corporate service activities have been discontinued and primarily related to
human resources and risk management. In 2008, the only
significant corporate service activities relate to fees for ongoing guarantees
provided by Halliburton on existing credit support instruments which have not
yet expired.
The
employee matters agreement provides for the allocation of liabilities and
responsibilities to our current and former employees and their participation in
certain benefit plans maintained by Halliburton. Among other items, the employee
matters agreement and the KBR, Inc. Transitional Stock Adjustment Plan provide
for the conversion, upon the complete separation of KBR from Halliburton,
of stock options and restricted stock awards (with restrictions that have not
yet lapsed as of the final separation date) granted to KBR employees under
Halliburton’s 1993 Stock and Incentive Plan (“1993 Plan”) to stock options and
restricted stock awards covering KBR common stock. On April 5, 2007,
immediately after our separation from Halliburton, the conversion of such stock
options and restricted stock awards occurred.
See Note
15 to our condensed consolidated financial statements for further discussion of
the above agreements and other related party transactions with
Halliburton.
Business
Environment and Results of Operations
Business
Environment
We are a
leading global engineering, construction and services company supporting the
energy, petrochemicals, government services and civil infrastructure sectors. We
are a leader in many of the growing end-markets that we serve, particularly gas
monetization, having designed and constructed, alone or with joint venture
partners, more than half of the world’s operating LNG liquefaction
capacity over the past 30 years. In addition, we are one of the largest
government defense contractors worldwide and we believe we are the world’s
largest government defense services provider.
We offer
our wide range of services through six business units; G&I, Upstream,
Services, Downstream, Technology and Ventures. Although we provide a wide range
of services, our business is heavily focused on major projects. At any given
time, a relatively few number of projects and joint ventures represent a
substantial part of our operations. Our projects are generally long term in
nature and are impacted by factors including local economic cycles, introduction
of new governmental regulation, and governmental outsourcing of services. Demand
for our services depends primarily on our customers’ capital expenditures and
budgets for construction and defense services. We have benefited from increased
capital expenditures by our petroleum and petrochemical customers driven by high
crude oil and natural gas prices and general global economic expansion.
Additionally, the heightened focus on global security and major military force
realignments, particularly in the Middle East, as well as a global expansion in
government outsourcing, have all contributed to increased demand for the type of
services that we provide.
Our
operations in some countries may be adversely affected by unsettled political
conditions, acts of terrorism, civil unrest, force majeure, war or other armed
conflict, expropriation or other governmental actions, inflation, exchange
controls, or currency fluctuations.
Contract
Structure
Our
contracts can be broadly categorized as either cost-reimbursable or fixed-price
(sometimes referred to as lump sum). Some contracts can involve both fixed-price
and cost-reimbursable elements. Fixed-price contracts are for a fixed sum to
cover all costs and any profit element for a defined scope of work. Fixed-price
contracts entail more risk to us as we must predetermine both the quantities of
work to be performed and the costs associated with executing the work. While
fixed-price contracts involve greater risk, they also are potentially more
profitable for us, since the owner/customer pays a premium to transfer many
risks to us. Cost-reimbursable contracts include contracts where the price is
variable based upon our actual costs incurred for time and materials, or for
variable quantities of work priced at defined unit rates. Profit on
cost-reimbursable contracts may be based upon a percentage of costs incurred
and/or a fixed amount. Cost-reimbursable contracts are generally less risky to
us, since the owner/customer retains many of the risks.
G&I
Business Unit Activity
Our
G&I business unit provides program and project management, contingency
logistics, operations and maintenance, construction management, engineering and
other services to military and civilian branches of governments and private
clients worldwide. We deliver on-demand support services across the
full military mission cycle from contingency logistics and field support to
operations and maintenance on military bases. A significant portion
of our G&I business unit’s current operations relate to the support of the
United States government operations in the Middle East, which we refer to as our
Middle East operations, one of the largest U.S. military deployments since World
War II. In the civil infrastructure market, we operate in diverse
sectors, including transportation, waste and water treatment and facilities
maintenance. We design, construct, maintain and operate and manage
civil infrastructure projects ranging from airport, rail, highway, water and
wastewater facilities, and mining and mineral processing to regional development
programs and major events. We provide many of these services to
foreign governments such as the United Kingdom and Australia.
In the
civil infrastructure sector, there has been a general trend of historic
under-investment. In particular, infrastructure related to the quality of water,
wastewater, roads and transit, airports, and educational facilities has declined
while demand for expanded and improved infrastructure continues to outpace
funding. As a result, we expect increased opportunities for our engineering and
construction services.
We
provide substantial work under our government contracts to the DoD and other
governmental agencies. Most of the services provided to the U.S. government are
under cost-reimbursable contracts where we have the opportunity to earn an award
fee based on our customer’s evaluation of the quality of our performance. These
award fees are evaluated and granted by our customer periodically. For contracts
entered into prior to June 30, 2003, all award fees are recognized during the
term of the contract based on our estimate of amounts to be
awarded.
LogCap Project. In
August 2006, we were awarded a $3.5 billion task order under our LogCAP III
contract for additional work through 2007. Backlog related to the
LogCAP III contract at March 31, 2008 was $2.2 billion. During the
almost six-year period we have worked under the LogCAP III contract, we
have been awarded 75 “excellent” ratings out of 95 total ratings. We
expect to complete all open task orders under our LogCAP III contract
during 2008.
In August
2006, the DoD issued a request for proposals on a new competitively bid,
multiple service provider LogCAP IV contract to replace the current
LogCAP III contract. We are currently the sole service provider under our
LogCAP III contract, which has been extended by the DoD through the third
quarter of 2008. In June 2007, we were selected as one of the executing
contractors under the LogCAP IV contract to provide logistics support to
U.S. Forces deployed in the Middle East. Since the award of the
LogCAP IV contract, unsuccessful bidders have brought actions at the GAO
protesting the contract award. The GAO rendered a decision upholding
portions of the bid protests. The DoD had implemented a process to
reevaluate the previous contract awards in accordance with the GAO’s
decision. In April 2008, we were selected as one of the executing
contractors of the LogCAP IV contract following the DoD’s reevaluation of
the award. Despite the award of a portion of the LogCAP IV
contract and extension of our LogCAP III contract, we expect our
overall volume of work to decline as our customer scales back its requirement
for the types and the amounts of services we provide. However, as a result of
the surge of additional troops in 2007 and extended tours of duty in Iraq, we
expect the decline may occur more slowly than we previously
expected.
Allenby & Connaught
project. In April 2006, Aspire Defence, a joint venture
between us, Carillion Plc. and a financial investor, was awarded a privately
financed project contract, the Allenby & Connaught project, by the MoD to
upgrade and provide a range of services to the British Army’s garrisons at
Aldershot and around Salisbury Plain in the United Kingdom. In addition to a
package of ongoing services to be delivered over 35 years, the project includes
a nine year construction program to improve soldiers’ single living, technical
and administrative accommodations, along with leisure and recreational
facilities. Aspire Defence will manage the existing properties and will be
responsible for design, refurbishment, construction and integration of new and
modernized facilities. Our Venture’s business unit manages KBR’s equity interest
in Aspire Defence, the project company that is the holder of the 35-year
concession contract. At March 31, 2008, we indirectly owned a 45% interest in
Aspire Defence. In addition, at March 31, 2008, we owned a 50%
interest in each of two joint ventures that provide the construction and the
related support services to Aspire Defence. As of March 31, 2008, our
performance through the construction phase is supported by $205 million in
letters of credit and surety bonds totaling $216 million, both of which have
been guaranteed by Halliburton. Furthermore, our financial and performance
guarantees are joint and several, subject to certain limitations, with our joint
venture partners. The project is funded through equity and subordinated debt
provided by the project sponsors, including us, and the issuance of publicly
held senior bonds.
Skopje Embassy Project. In 2005, we were
awarded a fixed-price contract to design and build a U.S. embassy in Skopje,
Macedonia. As a result of a project estimate update and progress achieved
on design drawings, we recorded a $12 million loss in connection with this
project during the fourth quarter of 2006. Subsequently in 2007, we
recorded additional losses on this project of approximately $27 million, and
approximately $12 million during the first quarter of 2008 bringing our total
estimated losses to approximately $51 million. These additional costs
are a result of increased costs of materials and the related costs of freight,
installation and other costs. We are currently in process of further
refining the material requirements of the contract and we expect this to be
completed by June 30, 2008. We could incur additional costs and losses on
this project including costs and losses related to additional materials costs or
the related freight and installation costs that may be identified or if our
plans to make up lost schedule are not achieved. As of March 31,
2008, the project was approximately 62% complete.
Upstream
Business Unit Activity
Our
Upstream business unit provides a full range of services for large, complex
upstream projects, including liquefied natural gas (“LNG”), gas-to-liquids
(“GTL”), onshore oil and gas production facilities, offshore oil and gas
production facilities, including platforms, floating production and subsea
facilities, and onshore and offshore pipelines. In gas-to-liquids, we are
leading the construction of two of the world’s three gas-to-liquids projects
under construction or start-up, the size of which exceeds that of almost any
other in the industry. Our Upstream business unit has designed and constructed
some of the world’s most complex onshore facility and pipeline projects and, in
the last 30 years, more than half of the world's operating LNG liquefaction
capacity. In oil & gas, we provide integrated engineering and program
management solutions for offshore production facilities and subsea developments,
including the design of the largest floating production facility in the world to
date.
Skikda
project. During the third quarter of 2007, we were awarded the
engineering, procurement and construction (“EPC”) contract for the Sonatrach
Skikda LNG project, to be constructed at Skikda, Algeria. In addition
to performing the EPC work for the 4.5 million metric tons per annum LNG train,
we will execute the pre-commissioning and commissioning portion of the
contract. The contract has an approximate value of $2.8
billion. As of March 31, 2008 the Skikda project was approximately
16% complete.
Escravos project. In connection with
our review of a consolidated 50%-owned GTL project in Escravos, Nigeria,
during the second quarter of 2006, we identified increases in the overall cost
to complete this four-plus year project, which resulted in our recording a $148
million charge before minority interest and taxes during the second quarter of
2006. These cost increases were caused primarily by schedule delays related to
civil unrest and security on the Escravos River, changes in the scope of
the overall project, engineering and construction changes due to necessary
front-end engineering design changes and increases in procurement cost due to
project delays. The increased costs were identified as a result of our first
check estimate process.
During the first half of 2007, we and our joint venture partner
negotiated modifications to the contract terms and conditions resulting in an
executed contract amendment in July 2007. The contract has been amended to convert
from a fixed price to a reimbursable contract whereby we will be paid our actual
cost incurred less a credit that approximates the charge we identified in the
second quarter of 2006. The unamortized balance of the
charge is included as a
component of the “Reserve
for estimated losses on uncompleted contracts” in the accompanying condensed
consolidated balance sheets. Also included in the amended contract
are client determined incentives that may be earned over the remaining life of the contract.
In the three months ended
March 31, 2008, we did not earn any of the incentives
available under the provisions of the amended contract. Because our amended agreement with the client
provides that we will be reimbursed for our actual costs incurred, as defined, all
amounts of probable unapproved change order revenue that were previously included in the project estimated revenues are now considered approved. Our Advanced billings on uncompleted
contracts included in our
condensed consolidated balance sheets related to this project was $52 million and $236 million at
March 31, 2008 and
December 31, 2007, respectively.
Brown & Root Condor Spa (“BRC”).
BRC was a joint venture in which we sold our 49% interest and other
rights in BRC in the third quarter of 2007 to Sonatrach for approximately $24
million, resulting in a pre-tax gain of approximately $18 million. In
the first quarter of 2007, we recorded an $18 million impairment charge, of
which $16 million was classified as “Equity in earnings (losses) of
unconsolidated affiliates” and $2 million as a component of “Cost of services”
in our condensed consolidated statements of income. During the first
quarter of 2007, we billed approximately $2 million of services to BRC, which we
expensed as a component of “Cost of services”.
Results
of Operations
|
|
|
Three
Months Ended March 31,
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Increase (Decrease)
|
|
|
Percentage Change
|
|
|
|
|
(In
millions of dollars)
|
|
|
Revenue:
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
G&I:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government —Middle East Operations
|
|
$ |
1,368 |
|
|
$ |
1,142 |
|
|
$ |
226 |
|
|
|
20 |
% |
|
U.S.
Government —Americas Operations
|
|
|
121 |
|
|
|
188 |
|
|
|
(67 |
) |
|
|
(36 |
)% |
|
International
Operations
|
|
|
195 |
|
|
|
127 |
|
|
|
68 |
|
|
|
54 |
% |
|
Total
G&I
|
|
|
1,684 |
|
|
|
1,457 |
|
|
|
227 |
|
|
|
16 |
% |
|
Upstream:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gas
Monetization
|
|
|
445 |
|
|
|
282 |
|
|
|
163 |
|
|
|
58 |
% |
|
Offshore
|
|
|
137 |
|
|
|
83 |
|
|
|
54 |
|
|
|
65 |
% |
|
Other
|
|
|
29 |
|
|
|
27 |
|
|
|
2 |
|
|
|
7 |
% |
|
Total
Upstream
|
|
|
611 |
|
|
|
392 |
|
|
|
219 |
|
|
|
56 |
% |
|
Services
|
|
|
108 |
|
|
|
71 |
|
|
|
37 |
|
|
|
52 |
% |
|
Downstream
|
|
|
100 |
|
|
|
85 |
|
|
|
15 |
|
|
|
18 |
% |
|
Technology
|
|
|
19 |
|
|
|
28 |
|
|
|
(9 |
) |
|
|
(32 |
)% |
|
Ventures
|
|
|
(3 |
) |
|
|
(6 |
) |
|
|
3 |
|
|
|
50 |
% |
|
Total
revenue
|
|
$ |
2,519 |
|
|
$ |
2,027 |
|
|
$ |
492 |
|
|
|
24 |
% |
|
(1)
|
Our
revenue includes both equity in the earnings of unconsolidated affiliates
as well as revenue from the sales of services into the joint ventures. We
often participate on larger projects as a joint venture partner and also
provide services to the venture as a subcontractor. The amount included in
our revenue represents our share of total project revenue, including
equity in the earnings (loss) from joint ventures and revenue from
services provided to joint
ventures.
|
|
|
|
Three
Months Ended March 31,
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Increase (Decrease)
|
|
|
Percentage Change
|
|
|
|
|
(In
millions of dollars)
|
|
|
Business
Unit Income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
G&I:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government —Middle East Operations
|
|
$ |
69 |
|
|
$ |
65 |
|
|
$ |
4 |
|
|
|
6 |
% |
|
U.S.
Government —Americas Operations
|
|
|
1 |
|
|
|
17 |
|
|
|
(16 |
) |
|
|
(94 |
)% |
|
International
Operations
|
|
|
39 |
|
|
|
23 |
|
|
|
16 |
|
|
|
70 |
% |
|
Total
job income
|
|
|
109 |
|
|
|
105 |
|
|
|
4 |
|
|
|
4 |
% |
|
Divisional
overhead
|
|
|
(29 |
) |
|
|
(35 |
) |
|
|
6 |
|
|
|
17 |
% |
|
Total
G&I business unit income
|
|
|
80 |
|
|
|
70 |
|
|
|
10 |
|
|
|
14 |
% |
|
Upstream:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gas
Monetization
|
|
|
41 |
|
|
|
38 |
|
|
|
3 |
|
|
|
8 |
% |
|
Offshore
|
|
|
67 |
|
|
|
12 |
|
|
|
55 |
|
|
|
458 |
% |
|
Other
|
|
|
8 |
|
|
|
(19 |
) |
|
|
27 |
|
|
|
142 |
% |
|
Total
job income
|
|
|
116 |
|
|
|
31 |
|
|
|
85 |
|
|
|
274 |
% |
|
Divisional
overhead
|
|
|
(11 |
) |
|
|
(11 |
) |
|
|
- |
|
|
|
- |
% |
|
Total
Upstream business unit income
|
|
|
105 |
|
|
|
20 |
|
|
|
85 |
|
|
|
425 |
% |
|
Services:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Job
income
|
|
|
16 |
|
|
|
13 |
|
|
|
3 |
|
|
|
23 |
% |
|
Divisional
overhead
|
|
|
(3 |
) |
|
|
(3 |
) |
|
|
- |
|
|
|
- |
% |
|
Total
Services business unit income
|
|
|
13 |
|
|
|
10 |
|
|
|
3 |
|
|
|
30 |
% |
|
Downstream:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Job
income
|
|
|
12 |
|
|
|
6 |
|
|
|
6 |
|
|
|
100 |
% |
|
Divisional
overhead
|
|
|
(4 |
) |
|
|
(4 |
) |
|
|
- |
|
|
|
- |
% |
|
Total
Downstream business unit income
|
|
|
8 |
|
|
|
2 |
|
|
|
6 |
|
|
|
300 |
% |
|
Technology:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Job
income
|
|
|
10 |
|
|
|
16 |
|
|
|
(6 |
) |
|
|
(38 |
)% |
|
Divisional
overhead
|
|
|
(5 |
) |
|
|
(5 |
) |
|
|
- |
|
|
|
- |
% |
|
Total
Technology business unit income
|
|
|
5 |
|
|
|
11 |
|
|
|
(6 |
) |
|
|
(55 |
)% |
|
Ventures:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Job
income (loss)overhead
|
|
|
(3 |
) |
|
|
(5 |
) |
|
|
2 |
|
|
|
40 |
% |
|
Divisional
overhead
|
|
|
(1 |
) |
|
|
- |
|
|
|
(1 |
) |
|
|
- |
% |
|
Total
Ventures business unit income (loss)
|
|
|
(4 |
) |
|
|
(5 |
) |
|
|
1 |
|
|
|
20 |
% |
|
Total
business unit income
|
|
$ |
207 |
|
|
$ |
108 |
|
|
$ |
99 |
|
|
|
92 |
% |
|
Unallocated
amounts:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Labor
costs absorption (1) overhead
|
|
|
3 |
|
|
|
(6 |
) |
|
|
9 |
|
|
|
150 |
% |
|
Corporate
general and administrative
|
|
|
(56 |
) |
|
|
(57 |
) |
|
|
1 |
|
|
|
2 |
% |
|
Total
operating income
|
|
$ |
154 |
|
|
$ |
45 |
|
|
$ |
109 |
|
|
|
242 |
% |
|
|
(1)
|
Labor
cost absorption represents costs incurred by our central labor and
resource groups (above)/ under the amounts charged to the operating
business units.
|
Three
months ended March 31, 2008 compared to three months ended March 31,
2007
Government and
Infrastructure. Revenue from our G&I business unit was $1.7 billion
and $1.5 billion for the three months ended March 31, 2008 and 2007,
respectively. The increase in revenue from our Middle East Operations is largely
a result of higher volume on U.S. military support activities in Iraq under our
LogCAP III contract due to a US military troop surge in the second half of
2007. We expect to provide services under our LogCAP III contract
through 2008. In April 2008, we were selected as one of the executing
contractors of the LogCAP IV contract. Despite the award of the
LogCAP IV contract, we expect our overall volume of work to decline as our
customer scales back its requirements for the types and amounts of services we
provide under these programs. Revenue from our Americas Operations
decreased primarily as a result of lower activity on several domestic
cost-reimbursable U.S. Government projects including the CENTCOM and Los Alamos
projects. The increase in revenue from our International Operations
is largely due to a project to design, procure and construct facilities for the
U.K. MoD in Basra, southern Iraq.
Business
unit income was $80 million and $70 million for the three months ended March 31,
2008 and 2007, respectively. Job income from our International
Operations increased due to several projects including increased earnings from
the Allenby & Connaught project and the recently awarded project to design,
procure and construct facilities for the U.K. MoD in southern
Iraq. The increases in our International Operations were partially
offset by an additional job loss of $12 million related to the U.S. embassy
project in Skopje, Macedonia recorded during the first quarter of 2008 in our
Americas Operations.
Upstream. Revenue
from our Upstream business unit was $611 million and $392 million for the three
months ended March 31, 2008 and 2007, respectively. The increase in
revenue is primarily due to increased activity from several Gas Monetization
projects including the Escravos GTL, Pearl GTL and Skikda LNG
projects. Revenue from these three projects increased an aggregate
$169 million during the first quarter of 2008. We continue to
experience a strong market for gas monetization projects with an increasing
number of LNG projects in the development stage. In addition, we
recognized revenue in the amount of $51 million related to the favorable
arbitration award related to one of our three projects performed for PEMEX, EPC
28.
Business
unit income was $105 million and $20 million for the three months ended March
31, 2008 and 2007, respectively. The increase in business unit income
was largely driven by a $51 million favorable arbitration award on one of our
three PEMEX projects EPC 28. In addition, in the first quarter of
2007, we recognized an $18 million impairment charge on our net investment in
BRC.
Services. Revenue
from our Services business unit was $108 million and $71 million for the three
months ended March 31, 2008 and 2007, respectively. The increase in
revenue is primarily due to increases in newly awarded and reoccurring direct
construction and modular fabrication services in our Canadian and North American
Construction operations. Revenue from the Shell Scotford Oil Sands
project in Canada increased approximately $33 million during the first quarter
of 2008.
Business
unit income was $13 million and $10 million for the three months ended March 31,
2008 and 2007, respectively. This increase in business unit income
was primarily attributable to our Canadian operations.
Downstream. Revenue
from our Downstream business unit was $100 million and $85 million for the three
months ended March 31, 2008 and 2007, respectively. During the first
quarter 2008, revenue increased by approximately $12 million on the Yanbu export
refinery and $11 million on the Saudi Kayan olefin projects in Saudi Arabia due
to increased activity. Increase in revenue related to these and other
projects were partially offset by a $22 million decrease in revenue during the
quarter on the EBIC ammonia plant project in Egypt as it nears
completion.
Business
unit income was $8 million and $2 million for the three months ended March 31,
2008 and 2007, respectively. This increase is primarily due to job
income from the Yanbu export refinery project which was in the early stages of
execution during the first quarter of 2007. This increase was
partially offset by job income losses of approximately $3 million on the Saudi
Kayan olefin projects.
Technology. Revenue
from our Technology business unit was $19 million and $28 million for the three
months ended March 31, 2008 and 2007, respectively. Business unit
income was $5 million and $11 million for the three months ended March 31, 2008
and 2007, respectively. The decrease in revenue and business unit
income is primarily attributable to several projects with lower activity as they
are completed or nearly completed as of the first quarter of
2008. Additionally, we have experienced delays and some cancellations
of anticipated refinery project awards.
Ventures. Revenue
from our Ventures business unit was $(3) million and $(6) million for the three
months ended March 31, 2008 and 2007, respectively. Business unit
loss was $4 million and $5 million for the three months ended March 31, 2008 and
2007, respectively. Revenue and business unit loss for the first
quarter of 2008 and 2007 are primarily driven by continued operating losses
generated on our investment in APT/FreightLink, the Alice Spring-Darwin railroad
project in Australia.
Labor cost
absorption. Labor cost absorption was $3 million and $(6)
million for the three months ended March 31, 2008 and 2007,
respectively. Labor cost absorption represents costs incurred by our
central labor and resource groups (above) or under the amounts charged to the
operating business units. The decrease in labor cost absorption in
the first three months of 2008 compared to the first three months of 2007 was
primarily due to decreased volume at MWKL.
General and Administrative
expense. General and administrative expense was $56 million
and $57 million for the three months ended March 31, 2008 and 2007,
respectively. Included in the $56 million of general and
administrative expense for the three months ended March 31, 2008 are net costs
of approximately $7 million which we do not expect to recur,
including: costs incurred with the deployment of our HR/Payroll
instance of SAP together with a charge from Halliburton for access to their
HR/Payroll system which we have used historically pursuant to the Master
Separation agreement, costs accrued for sales and use tax for periods currently
under audit partially offset by an adjustment recorded in the first quarter of
2008 for our 2007 short term incentive program reflecting the final
determination of certain discretionary amounts made by our compensation
committee in the first quarter of 2008 and other adjustments.
Non-operating
items.
Net
interest income was $16 million for the first three months of 2008 compared to
net interest income of $13 million for the first three months of 2007. The
increase in net interest income is primarily due to interest income of $4
million recorded in January 2008, related to the payment from PEMEX for the EPC
22 arbitration award. As of March 31, 2008, we had total cash and equivalents of
approximately $1.9 billion (including committed cash of $358 million) compared
to $1.6 billion as of March 31, 2007.
Provision
for income taxes from continuing operations in the first three months of 2008
was $60 million compared to $26 million in the first three months of
2007. The effective tax rate for the first quarter of 2008 was
approximately 36% as compared to a rate of 47% in the first quarter of
2007. Our effective tax rate for the first quarter of 2008 exceeded
our statutory rate of 35% primarily due to not receiving a tax benefit for
operating losses incurred on our railroad investment in Australia, and state and
other taxes. Our effective tax rate for the first quarter of 2007
exceeded our statutory rate of 35% primarily due to not receiving a tax benefit
for a portion of our impairment charge related to our investment in BRC, losses
from our railroad investment in Australia, and state and other
taxes.
Income
from discontinued operations was $0 million and $4 million for the three months
ended March 31, 2008 and 2007, respectively. Discontinued operations
represents revenues and gain on the sale of our Productions Services group in
May 2006 and the disposition of our 51% interest in DML in June
2007. Revenues from our discontinued operations were $0 million and
$224 million for the three months ended March 31, 2008 and 2007,
respectively.
Backlog
Backlog
represents the dollar amount of revenue we expect to realize in the future as a
result of performing work under multi-period contracts that have been awarded to
us. Backlog is not a measure defined by generally accepted accounting
principles, and our methodology for determining backlog may not be comparable to
the methodology used by other companies in determining their backlog. Backlog
may not be indicative of future operating results. Not all of our revenue is
recorded in backlog for a variety of reasons, including the fact that some
projects begin and end within a short-term period. Many contracts do not provide
for a fixed amount of work to be performed and are subject to modification or
termination by the customer. The termination or modification of any one or more
sizeable contracts or the addition of other contracts may have a substantial and
immediate effect on backlog.
We
generally include total expected revenue in backlog when a contract is awarded
and/or the scope is definitized. For our projects related to unconsolidated
joint ventures, we have included in the table below our percentage ownership of
the joint venture’s backlog. However, because these projects are accounted for
under the equity method, only our share of future earnings from these projects
will be recorded in our revenue. Our backlog for projects related to
unconsolidated joint ventures in our continuing operations totaled $3.0 billion
and $3.1 billion at March 31, 2008 and December 31, 2007, respectively. We also
consolidate joint ventures which are majority-owned and controlled or are
variable interest entities in which we are the primary beneficiary. Our backlog
included in the table below for projects related to consolidated joint ventures
with minority interest includes 100% of the backlog associated with those joint
ventures and totaled $3.1 billion at March 31, 2008 and $3.2 billion at December
31, 2007.
For
long-term contracts, the amount included in backlog is limited to five years. In
many instances, arrangements included in backlog are complex, nonrepetitive in
nature, and may fluctuate depending on expected revenue and timing. Where
contract duration is indefinite, projects included in backlog are limited to the
estimated amount of expected revenue within the following twelve months. Certain
contracts provide maximum dollar limits, with actual authorization to perform
work under the contract being agreed upon on a periodic basis with the customer.
In these arrangements, only the amounts authorized are included in backlog. For
projects where we act solely in a project management capacity, we only include
our management fee revenue of each project in backlog.
Backlog(1)
(in
millions)
| |
|
|
|
|
|
|
|
G&I:
|
|
|
|
|
|
|
|
U.S.
Government - Middle East Operations
|
|
$ |
2,200 |
|
|
$ |
1,361 |
|
|
U.S.
Government - Americas Operations
|
|
|
564 |
|
|
|
548 |
|
|
International
Operations
|
|
|
2,251 |
|
|
|
2,339 |
|
|
Total
G&I
|
|
$ |
5,015 |
|
|
$ |
4,248 |
|
|
Upstream:
|
|
|
|
|
|
|
|
|
|
Gas
Monetization
|
|
|
6,249 |
|
|
|
6,606 |
|
|
Offshore
Projects
|
|
|
123 |
|
|
|
173 |
|
|
Other
|
|
|
149 |
|
|
|
118 |
|
|
Total
Upstream
|
|
$ |
6,521 |
|
|
$ |
6,897 |
|
|
Services
|
|
|
778 |
|
|
|
765 |
|
|
Downstream
|
|
|
280 |
|
|
|
313 |
|
|
Technology
|
|
|
111 |
|
|
|
128 |
|
|
Ventures
|
|
|
735 |
|
|
|
700 |
|
|
Total
backlog for continuing operations
|
|
$ |
13,440 |
|
|
$ |
13,051 |
|
|
(1)
|
Our
G&I business unit’s total backlog from continuing operations
attributable to firm orders was $4.8 billion and $4.0 billion as of March
31, 2008 and December 31, 2007, respectively. Our G&I business unit’s
total backlog from continuing operations attributable to unfunded orders
was $0.2 million as of March 31, 2008 and December 31,
2007.
|
We
estimate that as of March 31, 2008, 51% of our backlog will be complete within
one year. As of March 31, 2008, 24% of our backlog for continuing operations was
attributable to fixed-price contracts and 76% was attributable to
cost-reimbursable contracts. For contracts that contain both fixed-price and
cost-reimbursable components, we classify the components as either fixed-price
or cost-reimbursable according to the composition of the contract except for
smaller contracts where we characterize the entire contract based on the
predominant component.
In August
2006, we were awarded a task order for approximately $3.5 billion for our
continued services in Iraq through the third quarter of 2008 under the LogCAP
III contract in our G&I-Middle East operations. As of March 31, 2008, our
backlog under the LogCAP III contract was $2.2 billion. In July 2007,
we were awarded the EPC contract for the Skikda LNG project for approximately
$2.8 billion. As of March 31, 2008, the Skikda backlog was $2.7
billion and was included in our Upstream-Gas Monetization
operations.
Liquidity
and Capital Resources
At both
March 31, 2008 and December 31, 2007, cash and equivalents totaled $1.9 billion,
including $358 million and $483 million, respectively, of cash and equivalents
from advanced payments related to contracts in progress held by our joint
ventures and other subsidiaries that we consolidate for accounting
purposes. The use of these cash balances in consolidated joint
ventures is limited to the specific projects or joint venture activities and is
not available for other projects, general cash needs or distribution to us
without approval of the board of directors of the respective joint ventures or
subsidiaries. In addition, cash and equivalents includes $231 million
and $213 million as of March 31, 2008 and December 31, 2007, respectively, from
advanced payments related to a contract in progress that was approximately 16%
complete at March 31, 2008. We expect to use the cash and equivalents advanced
on this project to pay project costs.
Our
Revolving Credit Facility has an $850 million capacity and is available for cash
working capital needs and letters of credit to support our operations. Letters
of credit issued in support of our operations reduce the Revolving credit
Facility capacity on a dollar-for-dollar basis. As of March 31, 2008 we had
approximately $485 million of letters of credit outstanding, which reduces the
availability under the Revolving Credit Facility to $365 million. In addition,
we have approximately $499 million in letters of credit issued under various
Halliburton facilities. The letters of credit are irrevocably and
unconditionally guaranteed by Halliburton. Under the terms of the master
separation agreement, we provide an indemnification to Halliburton in the event
of a drawing under these letters of credits. Also, we have agreed to
use our reasonable best efforts to attempt to release or replace Halliburton’s
liability under these outstanding credit support instruments. We currently pay
an annual fee to Halliburton calculated at 0.40% of the outstanding
performance-related letters of credit and 0.80% of the outstanding
financial-related letters of credit guaranteed by
Halliburton. Effective January 1, 2010, the annual fee increases to
0.90% and 1.65% of the outstanding performance-related and financial-related
outstanding issued letters of credit, respectively.
We are
also pursuing several large projects that, if awarded to us will likely require
us to issue letters of credit that could be large in amount.
Our
business strategy includes our evaluation of strategic acquisitions of other
businesses. We are currently evaluating several opportunities that,
if successfully acquired, will require the use of a portion of our existing cash
balances.
The
current capacity of our Revolving Credit Facility is not adequate for us to
issue letters of credit necessary to replace all outstanding letters of credit
issued under the various Halliburton facilities and issue letters of credit for
projects that we are currently pursuing should they be awarded to us. In
addition, we would not be able to make working capital borrowings against the
Revolving Credit Facility if the availability is fully reduced by issued letters
of credit. We are currently pursuing expansion of our credit
capacity.
Operating
activities. Cash provided by operating activities was $68
million for the first three months of 2008 due mainly to earnings sources
including the payment from PEMEX related to the EPC 22 arbitration award of $79
million. Cash provided by operating activities is net
of approximately $60 million of contributions to our international and
domestic pension plans made during the first quarter of 2008. Our
working capital requirements for our Iraq-related work decreased from $239
million at December 31, 2007 to $159 million at March 31, 2008, generating cash
of $80 million. Cash used by operating activities was $19 million for the first
three months of 2007 due mainly to a higher volume of accounts receivable
billing on projects and a decrease in accounts payable primarily related to
LogCap III, offset slightly by an increase in advanced billings on uncompleted
projects. The increases in accounts receivables and advanced billings
on uncompleted projects primarily related to our Escravos project.
Investing activities. Cash
used by investing activities was $15 million for the first three months of 2008
compared to $13 million for the first three months of 2007. Capital
expenditures were $8 million and $12 million for the first three months of 2008
and 2007, respectively. During the first quarter of 2008, we acquired
an additional 8% interest in a joint venture related to one of our privately
financed projects to design, build, operate, and maintain roadways for certain
government agencies in the United Kingdom. The additional interest
was purchased from an existing shareholder for approximately $8 million in
cash. In April 2008, we completed the sale of the additional 8%
interest in the joint venture to an unrelated party for approximately $9
million.
Financing
activities. Cash used in financing activities was $7 million
for the first three months of 2008 and primarily related to payments of
dividends to minority shareholders. Cash used in financing activities
was $142 million for the first three months of 2007, and primarily related to
payments made to Halliburton and payment of dividends to minority
shareholders. The payments to Halliburton during the quarter related
to various support services provided by Halliburton under our transition
services agreement and other amounts.
Further sources of
cash. Future sources of cash include cash flows from
operations, including cash advance payments from our customers, and borrowings
under our Revolving Credit Facility. The Revolving Credit Facility is available
for cash advances required for working capital and letters of credit to support
our operations. However, to meet our short- and long-term liquidity
requirements, we will primarily look to cash generated from operating
activities. As such, we will be required to consider the working capital
requirements of future projects.
Future uses of
cash. Future uses of cash will primarily relate to working
capital requirements for our operations. In addition, we will use
cash to fund capital expenditures, pension obligations, operating leases, cash
dividend payments and various other obligations, as they arise.
As of
March 31, 2008, we had commitments to fund approximately $116 million to related
companies. These commitments arose primarily during the start-up of
these entities due to the losses incurred by them. At March 31, 2008,
approximately $28 million of the $116 million commitments are
current.
We
currently expect to contribute approximately $76 million and $2 million to our
international and domestic pension plans, respectively, in 2008. For
the three months ended March 31, 2008, we had contributed approximately $59
million and $1 million to our international and domestic pension plans,
respectively.
Capital
spending for 2008 is expected to be approximately $66 million, and primarily
relates to information technology and real estate.
On
February 29, 2008, our Board of Directors declared a quarterly cash dividend of
$0.05 per share of common stock payable on April 15, 2008 to shareholders of
record on March 14, 2008. The dividend payment was approximately $9
million and is included in other current liabilities as of March 31,
2008. Any future dividend declarations will be at the discretion of
our Board of Directors.
Letters of credit, bonds and
financial and performance guarantees. We and Halliburton have agreed that
the existing surety bonds, letters of credit, performance guarantees, financial
guarantees and other credit support instruments guaranteed by Halliburton will
remain in full force and effect following the separation of our companies. In
addition, we and Halliburton have agreed that until December 31, 2009,
Halliburton will issue additional guarantees, indemnification and reimbursement
commitments for our benefit in connection with (a) letters of credit
necessary to comply with our EBIC contract, our Allenby & Connaught project
and all other contracts that were in place as of December 15, 2005; (b) surety
bonds issued to support new task orders pursuant to the Allenby & Connaught
project, two job order contracts for our G&I business unit and all other
contracts that were in place as of December 15, 2005; and (c) performance
guarantees in support of these contracts. Each credit support instrument
outstanding at the time of our initial public offering and any additional
guarantees, indemnification and reimbursement commitments will remain in effect
until the earlier of: (1) the termination of the underlying project contract or
our obligations thereunder or (2) the expiration of the relevant credit support
instrument in accordance with its terms or release of such instrument by the
customer. In addition, we have agreed to use our reasonable best efforts to
attempt to release or replace Halliburton’s liability under the outstanding
credit support instruments and any additional credit support instruments
relating to our business for which Halliburton may become obligated for which
such release or replacement is reasonably available. For so long as Halliburton
or its affiliates remain liable with respect to any credit support instrument,
we have agreed to pay the underlying obligation as and when it becomes due.
Furthermore, we agreed to pay to Halliburton a quarterly carry charge for its
guarantees of our outstanding letters of credit and surety bonds and agreed to
indemnify Halliburton for all losses in connection with the outstanding credit
support instruments and any new credit support instruments relating to our
business for which Halliburton may become obligated following the
separation.
During
the second quarter of 2007, a £20 million letter of credit was issued on our
behalf by a bank in connection with our Allenby & Connaught
project. The letter of credit supports a building contract guarantee
executed between KBR and certain project joint venture company to provide
additional credit support as a result of our separation from
Halliburton. The letter of credit issued by the bank is guaranteed by
Halliburton.
Debt covenants. The Revolving
Credit Facility contains a number of covenants restricting, among other things,
our ability to incur additional indebtedness and liens, sales of our assets and
payment of dividends, as well as limiting the amount of investments we can make.
We are limited in the amount of additional letters of credit and other debt we
can incur outside of the Revolving Credit Facility. Also, under the current
provisions of the Revolving Credit Facility, it is an event of default if any
person or two or more persons acting in concert, other than Halliburton or us,
directly or indirectly acquire 25% or more of the combined voting power of all
outstanding equity interests ordinarily entitled to vote in the election of
directors of KBR Holdings, LLC, the borrower under the facility and a wholly
owned subsidiary of KBR. Prior to our amendment to the Revolving Credit Facility
on January 17, 2008 (referred to below), we were generally prohibited
from purchasing, redeeming, retiring, or otherwise acquiring any of our common
stock unless it is in connection with a compensation plan, program, or practice
provided that the aggregate price paid for such transactions does not exceed $25
million in any fiscal year.
On
January 17, 2008, we entered into an Agreement and Amendment to the Revolving
Credit Facility effective as of January 11, 2008, (the
“Amendment”). The Amendment (i) permits us to elect whether any
increase in the aggregate commitments under the Revolving Credit Facility used
solely for the issuance of letters of credit are to be funded from existing
banks or from one or more eligible assignees; and (ii) permits us to declare and
pay shareholder dividends and/or engage in equity repurchases not to exceed $400
million.
The
Revolving Credit Facility also requires us to maintain certain financial ratios,
as defined by the Revolving Credit Facility agreement, including a
debt-to-capitalization ratio that does not exceed 50%; a leverage ratio that
does not exceed 3.5; and a fixed charge coverage ratio of at least 3.0. At March
31, 2008 and December 31, 2007, we were in compliance with these ratios and
other covenants.
Off
balance sheet arrangements
We
participate, generally through an equity investment in a joint venture,
partnership or other entity, in privately financed projects that enable our
government customers to finance large-scale projects, such as railroads, and
major military equipment purchases. We evaluate the entities that are created to
execute these projects following the guidelines of Financial Accounting
Standards Board (“FASB”) Interpretation No. 46R. These projects
typically include the facilitation of non-recourse financing, the design and
construction of facilities, and the provision of operations and maintenance
services for an agreed period after the facilities have been completed. The
carrying value of our investments in privately financed project entities totaled
$44 million and $30 million at March 31, 2008 and December 31, 2007,
respectively. Our equity in earnings (losses) from privately financed project
entities totaled $5 million and $(1) million for the quarters ending March 31,
2008 and 2007, respectively.
Other
factors affecting liquidity
We had
unapproved claims totaling $68 million at March 31, 2008 and $82 million at
December 31, 2007. The unapproved claims outstanding at March
31, 2008 and December 31, 2007 are considered to be probable of collection and
have been recognized as revenue. These unapproved claims related to
contracts where our costs have exceeded the customer’s funded value of the task
order and therefore could not be billed. We are currently working
with our customer to obtain additional funding for these claims.
As of
March 31, 2008 and December 31, 2007, we had incurred approximately $148 million
and $156 million, respectively, of costs under the LogCAP III contract that
could not be billed to the government due to lack of appropriate funding on
various task orders. These amounts were associated with task orders that had
sufficient funding in total, but the funding was not appropriately allocated
within the task order. We are in the process of preparing a request for a
reallocation of funding to be submitted to the U.S. Army for negotiation. We
believe the negotiations will result in an appropriate distribution of funding
by the U.S. Army and collection of the full amounts due.
Legal
Proceedings
Information
related to various commitments and contingencies is described in Notes 8 and 9
to the condensed consolidated financial statements.
Environmental
Matters
We are
subject to numerous environmental, legal, and regulatory requirements related to
our operations worldwide. In the United States, these laws and regulations
include, among others: the Comprehensive Environmental Response, Compensation,
and Liability Act; the Resources Conservation and Recovery Act; the Clean Air
Act; the Federal Water Pollution Control Act; and the Toxic Substances Control
Act.
In
addition to the federal laws and regulations, states and other countries where
we do business often have numerous environmental, legal and regulatory
requirements by which we must abide. We evaluate and address the
environmental impact of our operations by assessing and remediating contaminated
properties in order to avoid future liabilities and by complying with
environmental, legal and regulatory requirements. On occasion, we are
involved in specific environmental litigation and claims, including the
remediation of properties we own or have operated as well as efforts to meet or
correct compliance-related matters. We make estimates of the amount
of costs associated with known environmental contamination that we will be
required to remediate and record accruals to recognize those estimated
liabilities. Our estimates are based on the best available
information and are updated whenever new information becomes
known. For certain locations including our property at Clinton Drive,
we have not completed our analysis of the site conditions and until further
information is available, we are only able to estimate a possible range of
remediation costs. This range of costs could change depending on our
ongoing site analysis and the timing and techniques used to implement
remediation activities. We do not expect costs related to
environmental matters will have a material adverse effect on our consolidated
financial position or our results of operations. At March 31, 2008
our accrual for the estimated assessment and remediation costs associated with
all environmental matters was approximately $7 million, which represents the low
end of the range of possible costs that could be as much as $15
million.
New
Accounting Standards
In June
2007, the FASB ratified EITF 06-11, “Accounting for Income Tax Benefits of
Dividends on Share-Based Payment Awards” (“EITF 06-11”). EITF 06-11
provides that tax benefits associated with dividends or dividend equivalents
that are charged to retained earnings on certain share-based payment awards be
recorded as a component of additional paid-in capital. EITF 06-11 is
effective, on a prospective basis, for fiscal years beginning after December 15,
2007. The adoption of EITF 06-11 did not have a material impact on
our financial position, results of operations and cash flows.
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities-Including an amendment of FASB
Statement No. 115,” (“SFAS 159”). SFAS 159 provides companies with an
option to measure certain financial instruments and other items at fair value
with changes in fair value reported in earnings. SFAS 159 is effective for
fiscal years beginning after November 15, 2007. Most of the
provisions of SFAS 159 apply only to entities that elect the fair value
option. However, the amendment to FASB Statement No. 115, “Accounting
for Certain Investments in Debt and Equity Securities”, applies to all entities
with available-for-sale and trading securities. We have not elected
to exercise the fair value irrevocable option and as such, the adoption of this
Statement did not have a material impact on our financial position, results of
operations and cash flows.
In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments
and Hedging Activities an amendment of FASB Statement No. 133,” (“SFAS
161”). SFAS 161 requires enhanced disclosures about an entity’s
derivative and hedging activities. Entities are required to provide
enhanced disclosures about (a) how and why an entity uses derivative
instruments, (b) how derivative instruments and related hedged items are
accounted for under Statement 133 and its related interpretations, and (c) how
derivative instruments and related hedged items are affect an entity’s financial
position, financial performance and cash flows. SFAS 161 is effective
for fiscal years beginning after November 15, 2008. The adoption of
this Statement will not have an impact on our financial position, results of
operations or cash flows.
In April
2008, the FASB issued FASB Staff Position (FSP) FAS 142-3, “Determination of the
Useful Life of Intangible Assets.” This FSP amends the factors that should be
considered in developing renewal or extension assumptions used to determine the
useful life of a recognized intangible asset under FASB Statement No. 142,
“Goodwill and Other Intangible Assets.” The intent of this FSP is to improve the
consistency between the useful life of a recognized intangible asset under
Statement 142 and the period of expected cash flows used to measure the fair
value of the asset under FASB Statement No. 141 (Revised 2007), “Business
Combinations,” and other U.S. generally accepted accounting principles (GAAP).
This FSP is effective for financial statements issued for fiscal years beginning
after December 15, 2008, and interim periods within those fiscal years. Early
adoption is prohibited. We are currently evaluating the impact the adoption
of this FSP will have on our financial position, results of operations or cash
flows.
Item 3. Quantitative and Qualitative Disclosures About
Market Risk
We are
exposed to financial instrument market risk from changes in foreign currency
exchange rates and interest rates. We selectively manage these exposures through
the use of derivative instruments to mitigate our market risk from these
exposures. The objective of our risk management is to protect our
cash flows related to sales or purchases of goods or services from market
fluctuations in currency rates. Our use of derivative instruments
includes the following types of market risk:
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volatility
of the currency rates;
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time
horizon of the derivative
instruments;
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the
type of derivative instruments
used.
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We do not
use derivative instruments for trading purposes. We do not consider
any of these risk management activities to be material.
Item 4. Controls and Procedures
In
accordance with the Securities Exchange Act of 1934 Rules 13a-15 and 15d-15, we
carried out an evaluation, under the supervision and with the participation of
management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of our disclosure controls and procedures as of the end of
the period covered by this report. Based on that evaluation, our
Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures were effective as of March 31, 2008 to
provide reasonable assurance that information required to be disclosed in our
reports filed or submitted under the Exchange Act is recorded, processed,
summarized, and reported within the time periods specified in the Securities and
Exchange Commission’s rules and forms. Our disclosure controls and
procedures include controls and procedures designed to ensure that information
required to be disclosed in reports filed or submitted under the Exchange Act is
accumulated and communicated to our management, including our Chief Executive
Officer and Chief Financial Officer, as appropriate, to allow timely decisions
regarding required disclosure.
During
the most recent fiscal quarter, there have been no changes in our internal
control over financial reporting that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
Information
related to various commitments and contingencies is described in Notes 8 and 9
to the condensed consolidated financial statements and in Managements’
Discussion and Analysis of Financial Condition and Results of Operations – Legal
Proceedings.
There are
no material changes from the risk factors previously disclosed in Part I, Item
1A in our Annual Report on Form 10-K, which is incorporated herein by reference,
for the year ended December 31, 2007.
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security
Holders
None.
None.
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*
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Certification
of Chief Executive Officer pursuant to Section 302
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of
the Sarbanes-Oxley Act of 2002.
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*
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Certification
of Chief Financial Officer pursuant to Section 302
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of
the Sarbanes-Oxley Act of 2002.
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**
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Certification
of Chief Executive Officer pursuant to Section 906
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of
the Sarbanes-Oxley Act of 2002.
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**
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Certification
of Chief Financial Officer pursuant to Section 906
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of
the Sarbanes-Oxley Act of 2002.
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*
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Filed
with this Form 10-Q
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**
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Furnished
with this Form 10-Q
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As required by the Securities Exchange Act of 1934, the
registrant has authorized this report to be signed on behalf of the registrant
by the undersigned authorized individuals.
KBR,
INC.
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/s/ CHARLES E. SCHNEIDER
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/s/ JOHN W. GANN,
JR.
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Charles
E. Schneider
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John
W. Gann, Jr.
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Interim
Chief Financial Officer
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Vice
President and Chief Accounting
Officer
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Date: May
2, 2008