KBR, Inc. Form 10-Q Summary
Reporting period: Three months ended March 31, 2018, compared with March 31, 2017. The request metadata identifies “2017 Q1,” but the filing itself is a Form 10-Q for the first quarter of 2018.
Business Context
KBR provides professional services, technologies, engineering, program management, construction, logistics, operations and maintenance services to government, military and hydrocarbons customers. Reportable segments are Government Services, Technology, Hydrocarbons Services, Non-strategic Business and Other.
Effective January 1, 2018, KBR transferred its consulting business into Hydrocarbons Services and renamed the former Engineering & Construction segment. KBR also adopted ASC 606 using the modified retrospective method.
Financial Performance and Position
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Revenue | $1,038 million | $1,106 million | Down 6% |
| Gross profit | $81 million | $82 million | Down 1% |
| Equity earnings from affiliates | $23 million | $9 million | Up 156% |
| Operating income | $181 million | $63 million | Up $118 million |
| Net income attributable to KBR | $138 million | $37 million | Up $101 million |
| Diluted EPS | $0.97 | $0.26 | Up $0.71 |
| Operating cash flow | $(130) million | $(115) million | More use of $15 million |
| Capital expenditures | $9 million | $3 million | Up $6 million |
Gross margin was approximately 7.8% in Q1 2018 versus 7.4% in Q1 2017. The reported earnings improvement was dominated by the $115 million gain from consolidating Aspire Defence entities, rather than by revenue growth.
| Segment revenue | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Government Services | $677 million | $515 million | Up 31% |
| Technology | $62 million | $66 million | Down 6% |
| Hydrocarbons Services | $299 million | $499 million | Down 40% |
| Non-strategic Business | $0 million | $26 million | Down 100% |
At March 31, 2018, cash and equivalents were $486 million, including $272 million held by consolidated joint ventures and therefore not readily available for general corporate purposes. Total assets were $4.4 billion and total shareholders’ equity was $1.6 billion.
Debt included $540 million outstanding under the former $1 billion unsecured revolving credit agreement, plus $40 million of nonrecourse project debt. KBR was in compliance with its financial covenants at quarter-end. On April 25, 2018, the company refinanced this facility with new senior secured facilities consisting of a $500 million revolver, a $500 million performance letter-of-credit facility, a $350 million delayed-draw Term Loan A and an $800 million Term Loan B.
Material Changes Versus the Prior Comparable Period
- Revenue declined $68 million, primarily because hydrocarbons and non-strategic projects were completed or substantially completed.
- Government Services revenue increased $162 million, including $104 million from consolidating Aspire Defence entities and organic growth in LogCAP IV and other contracts.
- Hydrocarbons Services revenue fell $200 million and gross profit declined $18 million due to reduced activity and project completions.
- Equity earnings increased $14 million, mainly from Ichthys LNG and EBIC ammonia activities; the prior-year Ichthys result was adversely affected by cost-estimate increases that did not recur in Q1 2018.
- On January 15, 2018, Carillion plc entered compulsory liquidation. KBR consolidated certain Aspire Defence subcontracting joint ventures, recognized a $115 million gain, added $105 million of revenue and $13 million of gross profit, and recorded $120 million of noncontrolling interests.
- ASC 606 increased opening retained earnings by $144 million. The standard had only a modest Q1 2018 income effect: reported revenue was $2 million higher and net income was $1 million higher than under the previous accounting method.
- Backlog increased to $13.2 billion from $10.6 billion at December 31, 2017, primarily due to consolidation of Aspire backlog and new awards. Remaining performance obligations were $9.9 billion, with approximately 25% expected to be recognized within one year.
Cash Flow, Liquidity and Outlook
Operating cash flow was negative $130 million, driven by a $134 million increase in accounts receivable, a $44 million increase in contract assets and a $32 million reduction in contract liabilities. Investing cash flow was positive $125 million, primarily because consolidation of Aspire added $205 million of cash, partially offset by a $72 million investment in JKC. Financing cash flow was positive $51 million, including $70 million of revolver borrowings and $11 million of dividends.
Management stated that cash balances, operating cash generation and the new senior credit facilities should support operations for at least the next 12 months. Management expects a significant increase in Government Services revenue in 2018 following the SGT acquisition completed April 25, 2018, for aggregate consideration of $355 million, and the increased Aspire activity.
KBR expects to contribute approximately $230 million to $330 million to the Ichthys LNG joint venture during the remainder of 2018; it contributed approximately $72 million during Q1. The company also reported a $392 million pension funding deficit and expects total 2018 pension contributions of approximately $40 million.
Risks, Contingencies and Unusual Items
- Ichthys LNG includes significant unapproved change orders, customer claims and estimated recoveries. KBR’s proportionate share of amounts included in project estimates-at-completion was $907 million at March 31, 2018, including $843 million recognized based on progress.
- JKC may have to refund approximately $174 million of KBR’s proportionate share of amounts funded under the Deed of Settlement if claims remain unresolved by December 31, 2020. KBR may also need to fund additional working capital and could face exposure above its 30% ownership interest because of joint and several obligations.
- The Ichthys power-plant subcontractor abandoned the project. JKC is pursuing recovery of a $1.7 billion claim, but unrecovered completion costs could materially affect KBR’s earnings, liquidity and cash flow.
- U.S. government Form 1s questioned $171 million of billed costs; $83 million remained recorded as claims and contract assets. KBR had a $55 million reserve for unallowable costs.
- Legacy LogCAP III closeout, government audits, FCA litigation, qui tam matters, the DOJ subcontractor case, Unaoil investigations and securities litigation remain outstanding. The filing states that loss exposure cannot be determined for certain matters or that losses beyond recorded accruals are considered remote.
- The effective tax rate was approximately 20% versus 25% in Q1 2017. Accounting for the Tax Cuts and Jobs Act remained provisional; the estimated transition tax liability was approximately $171 million, offset by foreign tax credits.
- Customers may terminate many contracts for convenience, and government procurement cycles, funding levels, competitive bidding, commodity prices, project execution and foreign exchange movements may affect results.
Important Facts for Investors to Verify
- Separate recurring operating performance from the $115 million Aspire consolidation gain and other acquisition-related effects.
- Confirm the final purchase accounting and financing impact of the April 2018 SGT acquisition and the new senior secured credit facilities.
- Monitor Ichthys funding requirements, claim recoveries, arbitration outcomes and potential joint-and-several liabilities.
- Assess the collectability and timing of the $83 million in questioned U.S. government costs and the broader LogCAP III closeout.
- Reconcile backlog with the $9.9 billion remaining performance obligation, particularly the different treatment of unconsolidated joint ventures.
- Evaluate the availability of cash because $272 million was held by consolidated joint ventures and may be restricted to project use.
- Track pension funding requirements, tax-standard finalization and the effect of ASC 606 on future comparability.