KBR, Inc. Form 10-Q Summary
Period: Three and six months ended June 30, 2010. The request metadata identifies “2009 Q2,” but the supplied filing is KBR’s 2010 second-quarter Form 10-Q, filed July 29, 2010. Results are unaudited and presented in millions except per-share data.
Business Context and Reporting Period
KBR is a global engineering, construction and services company serving the energy, petrochemical, government services, industrial and infrastructure markets through Hydrocarbons, Infrastructure, Government and Power (IGP), Services and Ventures businesses. During the first quarter of 2010, KBR reorganized its business into more focused engineering and construction units.
The filing highlights continued reductions in U.S. military support activity in Iraq as work transitions from LogCAP III to LogCAP IV, partially offset by increased activity in Afghanistan and continued opportunities in international hydrocarbons markets.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2010 | Three Months Ended June 30, 2009 | Six Months Ended June 30, 2010 | Six Months Ended June 30, 2009 |
|---|---|---|---|---|
| Total revenue | $2,671 | $3,101 | $5,302 | $6,301 |
| Operating income | $199 | $137 | $298 | $281 |
| Net income | $122 | $83 | $181 | $178 |
| Net income attributable to KBR | $106 | $67 | $152 | $144 |
| Diluted EPS | $0.66 | $0.42 | $0.94 | $0.89 |
| Operating cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $432 | $(8) |
Calculated operating margin improved to approximately 7.5% in the quarter from 4.4% in the prior-year quarter, and to approximately 5.6% for the first six months from 4.5%. Net income attributable to KBR margin was approximately 4.0% for the quarter versus 2.2% and 2.9% for the six months versus 2.3%.
- Segment performance: Second-quarter Hydrocarbons revenue increased 8% to $1,004 and segment income increased 40% to $116. IGP revenue declined 28% to $1,197, while segment income increased 22% to $105. Services revenue declined 9% to $452, with income increasing 4% to $25.
- Six-month segment performance: Hydrocarbons revenue increased 6% to $1,926 and segment income increased 20% to $192. IGP revenue declined 29% to $2,471 and income declined 12% to $151. Services revenue declined 11% to $867, while income increased 7% to $46.
- Liquidity: Cash and equivalents were $1,235 at June 30, 2010, compared with $941 at December 31, 2009. Approximately $267 was held by consolidated joint ventures and restricted to project activities; restricted cash totaled $23.
- Debt and credit: KBR had no borrowings under its $1.1 billion revolving credit facility and had $326 of letters of credit outstanding under that facility. Consolidated non-recourse project-finance debt totaled $101, primarily related to Fasttrax Limited.
- Other obligations: Total letters of credit and financial guarantees issued under KBR lines were approximately $507, with an additional $197 guaranteed by Halliburton. KBR had $47 of commitments to fund privately financed and other projects.
- Backlog: Continuing-operations backlog was $12,423 at June 30, 2010, down from $14,098 at December 31, 2009. Approximately 49% was expected to be completed within one year; 21% was fixed-price and 79% cost-reimbursable.
Material Changes Versus the Prior Comparable Period
- Revenue declined 14% in the second quarter and 16% for the first six months, primarily because North America Government and Defense activity, especially LogCAP III work in Iraq, decreased substantially.
- Profitability improved despite lower revenue. Second-quarter operating income increased $62, or 45%, and six-month operating income increased $17, or 6%.
- The second quarter included approximately $60 of LogCAP III award fees received in May 2010. KBR had stopped accruing future award fees after receiving a zero-award determination for an earlier performance period.
- Operating cash flow improved sharply to $432 from an $8 use of cash, supported by earnings, improved collections, project working-capital movements and the LogCAP award-fee receipt.
- KBR repurchased approximately 2.5 million shares for $56 during the quarter and approximately 2.6 million shares for $58 during the first six months. The board authorized repurchases of up to 10 million shares.
- Effective January 1, 2010, KBR consolidated Fasttrax Limited as a variable-interest entity, adding approximately $101 of non-recourse debt and contributing to higher reported Ventures activity.
- KBR acquired Energo Engineering for approximately $16 in cash and paid $20 for an exclusive technology license. It also invested $7 in an equity-method joint venture.
- The tax rate was approximately 36% for both the quarter and six months, compared with approximately 37% in the corresponding 2009 periods.
Guidance, Outlook, Risks and Unusual Items
- Management expected LogCAP III work in Iraq to continue declining through the remainder of 2010, although selected task orders were expected to continue into 2011. International government activity, particularly in Afghanistan, was increasing.
- Management reported partial recovery in international hydrocarbons markets, expected increased Canadian oil-sands activity during 2010 and 2011, and potential improvement in infrastructure and industrial markets. The filing does not provide formal consolidated earnings guidance.
- U.S. government contract audits remain a significant contingency. DCAA Form 1 notices recommended suspension of approximately $356, of which $165 had been withheld from current billings. The government also demanded repayment of $135 of disapproved costs that KBR did not intend to pay at the reporting date.
- Government-contract matters include disputes involving private security, containerized housing, dining facilities, transportation costs and construction services. KBR had recognized certain accruals but stated that additional losses could be reasonably possible in some matters and could not be estimated.
- Unapproved government-contract claims totaled $101 and were recognized as revenue because management considered them probable of collection. This treatment remains subject to customer and audit resolution.
- Significant litigation included a Department of Justice False Claims Act complaint concerning private security costs, burn-pit litigation, convoy-ambush litigation, electrocution litigation and subcontractor arbitrations. Several matters had no accrual because outcomes and potential losses could not be estimated or were considered remote.
- The PEMEX arbitration award of approximately $351, including interest and fees, remained a long-term receivable because collection timing was uncertain. Enforcement and nullification proceedings continued.
- KBR recorded a $12 liability related to the Barracuda-Caratinga subsea-bolt arbitration and a corresponding Halliburton indemnification receivable.
- KBR’s former parent, Halliburton, continued to indemnify specified FCPA-related penalties and certain Barracuda-Caratinga liabilities. A U.K. Serious Fraud Office investigation remained ongoing, although KBR expected the indemnity to limit material exposure.
- Environmental liabilities accrued were approximately $7, with possible costs estimated at up to $14. Unaccrued potential liquidated damages totaled approximately $19.
- On July 1 through July 28, 2010, after quarter-end, KBR repurchased approximately 1.9 million additional shares for approximately $40.
Most Important Facts for Investors to Verify
- Whether the sharp decline in Iraq-related LogCAP III revenue is offset by LogCAP IV awards and Afghanistan-related growth.
- The timing, amount and collectability of LogCAP award fees and disputed government-contract claims.
- Potential cash exposure from DCAA audits, government withholdings, False Claims Act litigation and subcontractor disputes.
- Whether the $12.4 billion backlog converts to revenue and cash flow as expected, particularly given the decline from year-end 2009 and the high cost-reimbursable mix.
- The availability of cash held by consolidated joint ventures and the capacity required for $507 of letters of credit and other guarantees.
- The enforceability and collectability of Halliburton indemnities, including the remaining FCPA-related receivable and the Barracuda-Caratinga indemnity.
- Whether improved operating margins and cash flow are sustainable after excluding the timing benefit from the $60 LogCAP award-fee receipt and other project-specific items.