KBR, INC. annual report, FY2014

KBR, Inc. 2014 Form 10-K Summary

Reporting period: Fiscal year ended December 31, 2014. The request metadata identifies “2013 Q4,” but the supplied filing is KBR’s fiscal 2014 annual report, filed February 27, 2015.

Business Context

KBR is a global engineering, procurement, construction and services company focused on hydrocarbons and international government services. It operates through Technology & Consulting, Engineering & Construction, Government Services, Non-strategic Business and Other segments, and conducts business in more than 70 countries.

On December 11, 2014, KBR announced a strategic reorganization focused on global hydrocarbons and international government services. It intends to exit or divest fixed-price EPC power projects, fixed-price U.S. infrastructure and mining, the Building Group and fixed-price construction-only projects.

Financial Performance and Position

Metric	2014	2013	Change
Revenue	$6.366 billion	$7.214 billion	Down 12%
Gross profit/(loss)	$(65) million	$417 million	Down $482 million
Operating income/(loss)	$(794) million	$308 million	Down $1.102 billion
Net income/(loss) attributable to KBR	$(1.262) billion	$75 million	Down $1.337 billion
Diluted EPS	$(8.66)	$0.50	Declined
Equity earnings from unconsolidated affiliates	$163 million	$137 million	Up 19%
Cash flow from operations	$170 million	$297 million	Down $127 million
Capital expenditures	$53 million	$78 million	Down $25 million
Cash and equivalents	$970 million	$1.106 billion	Down $136 million
Total shareholders’ equity	$935 million	$2.439 billion	Down $1.504 billion
Backlog	$10.859 billion	$14.118 billion	Down 23%

Gross margin was approximately (1.0)% in 2014 versus approximately 5.8% in 2013. The reported loss was heavily affected by approximately $1.1 billion of strategic-review-related impairments, restructuring charges and tax valuation allowances.

Technology & Consulting: Revenue increased 7% to $353 million; gross profit declined 23% to $53 million.
Engineering & Construction: Revenue declined 8% to $4.584 billion; gross profit declined 46% to $141 million.
Government Services: Revenue declined 31% to $638 million; gross profit shifted from $90 million to a $32 million loss.
Non-strategic Business: Revenue declined 21% to $791 million; gross loss increased to $227 million from $5 million.

Material Changes Versus 2013

Revenue declined primarily because major LNG and gas-to-liquids projects reached completion or near completion, government logistics activity in Iraq and Afghanistan declined, and building projects were completed.
Backlog decreased by $3.259 billion to $10.859 billion after $6.529 billion of net workoff, partially offset by $2.772 billion of new awards and $498 million of scope changes. Management expects 51% of backlog to be recognized within one year.
Fixed-price contracts represented approximately 40% of backlog and cost-reimbursable contracts approximately 60%.
Canadian pipe fabrication and module assembly projects remained loss-making, although losses improved by approximately $60 million from 2013. The related loss reserve was $53 million at year-end.
Three power projects generated $173 million of negative gross-profit impact from revised cost estimates; related loss reserves were $80 million at year-end.
Chevron revenue declined to $1.069 billion, or 17% of consolidated revenue, from $1.859 billion, or 26%, in 2013.
Cash flow from operations declined to $170 million, while financing cash use increased to $210 million, including $106 million of share repurchases, $47 million of dividends and $61 million of distributions to noncontrolling interests.

Impairments, Taxes and Unusual Items

KBR recorded a $446 million goodwill impairment, primarily related to prior Roberts & Schaefer and BE&K reporting units.
Asset impairment and restructuring charges totaled $214 million, including a $135 million impairment related to abandoning the ERP implementation, $31 million of intangible-asset impairment, $29 million of severance and $14 million of lease-termination charges.
KBR recorded $421 million of income-tax expense despite a pretax loss, primarily because of nondeductible goodwill impairment and increased valuation allowances.
Deferred-tax-asset valuation allowances increased to $538 million from $83 million.
The fourth quarter was particularly weak, with a $1.241 billion net loss attributable to KBR, including the major impairment, restructuring and tax charges.

Liquidity, Debt and Commitments

KBR held $970 million of cash and equivalents, including $761 million internationally and $80 million in consolidated joint ventures. Some international and joint-venture cash is restricted or not readily available for corporate use.
The company had a $1 billion unsecured revolving credit facility expiring in December 2016. At year-end, it had no cash borrowings and $174 million of letters of credit outstanding under the facility.
KBR amended the credit agreement in December 2014 and was in compliance with its financial covenants, but reported only approximately $10 million to $25 million of cushion against the consolidated net-worth and debt-to-EBITDA requirements.
Total letters of credit outstanding were $628 million, supported by approximately $2.1 billion of committed and uncommitted lines.
Nonrecourse project-finance debt totaled $73 million, including $10 million current and $63 million long term.
Contractual obligations totaled $1.240 billion, including $753 million of operating leases and $397 million of pension funding obligations.
The company recorded a $502 million pension obligation and expects approximately $48 million of pension contributions in 2015.

Outlook, Management Commentary and Risks

Management described 2014 as a transitional year and expects to focus on differentiated technology, project delivery and recurring government services. Management did not expect the next major LNG EPC award until early 2016 or later, although it cited longer-term opportunities in LNG, brownfield projects, petrochemicals, chemicals, fertilizers, refining and North American projects.

Lower oil and gas prices may defer customer capital spending, although management believes KBR’s upstream, midstream, downstream and government-services portfolio provides some diversification.
Project execution risk remains significant, particularly on fixed-price contracts, where cost overruns, schedule delays, liquidated damages and subcontractor or labor issues can reduce or eliminate margins.
Percentage-of-completion accounting depends on estimates of contract revenue, costs, claims and change orders; revisions may cause material future losses or reversals of previously recognized profits.
Government contracts remain subject to audits, cost disallowances, payment withholding, termination, litigation, penalties and potential debarment.
At January 21, 2015, the U.S. government marked KBR’s facility security clearance invalid because of findings related to handling Army documents. The Government Services segment was barred from bidding on new security-required contracts until remediation, although existing work and task orders under existing contracts could continue.
Material contingencies include LogCAP III closeout matters, False Claims Act and qui tam litigation, environmental claims, the $465 million PEMEX/PEP judgment receivable and shareholder litigation related to the 2013 financial-statement restatement.
The PEMEX/PEP receivable included $401 million at year-end. Collection timing remained uncertain despite KBR’s expectation of recovery.

Investor Verification Points

Verify the sustainability of operating performance excluding the 2014 impairment, restructuring and tax charges.
Review the remaining loss exposure and cash requirements for the Canadian projects and the two loss-making power projects.
Assess backlog quality, conversion timing, cancellation rights and the proportion of fixed-price work.
Monitor covenant headroom, credit-facility renewal requirements and letter-of-credit capacity.
Evaluate the collectability and timing of the PEMEX/PEP judgment and U.S. government claims receivable.
Track resolution of the invalid facility security clearance and its effect on Government Services awards.
Review government audits, False Claims Act matters, litigation reserves and potential unaccrued contingencies.
Assess pension funding needs, international cash restrictions and the approximately $320 million deferred tax liability associated with undistributed foreign earnings that remain permanently reinvested.