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Executives

Rob Kukla, Jr. - Director, IR

William P. "Bill" Utt - President and CEO

T. Kevin DeNicola - Sr. VP and CFO

Analysts

Barry Bannister - Stifel Nicolaus

Jamie Cook - Credit Suisse

Steve Fisher - UBS

Andy Kaplowitz - Lehman Brothers

Dan Pickering - Pickering Energy Partners, Inc.

John B. Rogers - D.A. Davidson & Co.

Joseph Ritchie - Goldman Sachs

KBR, Inc. (KBR) Q2 FY08 Earnings Call August 1, 2008 11:00 AM ET

Operator

Good day everyone, and welcome to the 2008 Second Quarter Earnings Conference Call Hosted by KBR. This call is being recorded. As a reminder, your lines will be in a listen-only mode for the duration of the call. There will be a question-and-answer session, immediately following prepared remarks. You will receive instructions at that time.

And now for opening remarks and introductions, I'd like to turn the call over to Mr. Rob Kukla, Director of Investor Relations. Please go ahead, sir.

Rob Kukla, Jr. - Director, Investor Relations

Thank you, Stephanie. Good morning and welcome to KBR second quarter 2008 earnings conference call. Today's call is also being webcast, and a replay will be available on KBR's website for seven days. The press release announcing the second quarter results is available on KBR's website. We have tentatively scheduled our 2008 third quarter earnings conference call for Friday, October 31,t 2008.

Joining me today are Bill Utt, our Chairman, President and Chief Executive Officer; and Kevin DeNicola, Senior Vice President and Chief Financial Officer. In today's call, Bill will provide opening remarks and business outlook. Kevin will address KBR's operating performance, financial position, backlog and other financial matters. We will welcome questions after we complete our prepared remarks.

Before turning the call over to Bill, I would like to remind our audience that today's comments may include forward-looking statements, reflecting KBR's views about future events and their potential impact on performance. These matters involve risks and uncertainties that could impact operations and financial results and cause our actual results to differ from our forward-looking statements. These risks are discussed in KBR's Form 10-K for the year-ended December 31, 2007, KBR's quarterly reports on Forms 10-Q and KBR's current reports on Form 8-K.

Now, I'll turn the call over to Bill Utt. Bill?

William P. "Bill" Utt - President and Chief Executive Officer

Thanks Rob, and good morning everyone. Let me begin this morning by welcoming Kevin to our KBR earnings call. As CFO at Lyondell Chemicals for six years, Kevin brings to KBR both a demonstrated financial and operating experience. Also while at Lyondell, Kevin served as both Vice President of Corporate Development and Investor Relations, which complements nicely with the talent of KBR's management team. I am extremely pleased that Kevin is on Board. With the addition of Kevin to KBR's management team, I am pleased with the mix of experience and capabilities embedded in our management team, and believe this mix will continue to successfully drive KBR over the coming years.

The composition of the management team comes from both inside and outside the engineering and construction industry. With experiences in not only in engineering and construction, but also in energy generation and trading, commodity chemicals as well as project finance just to name a few. This mix of people and experiences has greatly contributed to KBR's success in implementing a best-in-class risk awareness and management culture, which will remain a core driver of KBR's current and future successes.

Now I will like to make some comments on the specific items outlined in this morning's earnings release. On July 23, 2008, KBR received an adverse an unexpected jury award related to 2003 LogCAP III subcontract. We estimate the jury award... the jury award the plain of approximately $40 million which gave rise to our charge of $0.15 per share. While we are appreciative of the efforts of judges and juries, we all recognize that errors are made and we believe, the award is not correct for the following reasons.

First, the jury ignored an executed change order, which reduce the work to be performed by the player, which included a release from future claims. Second the contract with the plaintive contained a cause disallowing claims for lost profits. And third the plaintive offered no evidence of its cost or profits in performing the work. The judge is yet to certify the award and we are also planning to appeal the award. Further, we are reviewing our options related to recovering all or part of the award from our customer. However, given the recent nature of the award, we have not had time to thoughtfully examine our path forward in this regard.

The second item outlined in our earnings release, relates to a failure on the part of one of KBR's L&G projects to receive final customer approval for a settlement in connection with KBR's second quarter close. As a result, KBR recorded a charge in the amount of $0.09 per share during the quarter. During the second quarter, our customer agreed to compensate the contract for additional cost and time require to construct the L&G facility. A settlement was negotiated and agreed between the customer and contractor, however the customer was unable to present the settlement to its board which is comprised of representatives of several international companies for a final approval prior to KBR having to close its books for the second quarter of 2008.

KBR believes it is likely that the settlement will ultimately be approved by the customers' board covering the increase in estimated costs and time to complete the project. Of the $15 million mentioned in the press release relating to two other one-time events, one was an $8 million pick-up related to change orders, which reduced the expected losses at completion for the Saudi Kayan project, and the other was a $7 million benefit related to a reassessment of our approval rate for incentives fees on the Pearl GTL project.

Now I would like to come in on the quarter and business outlook. Income from continuing operations for the second quarter of 2008 was $48 million or $0.28 per diluted share, compared to $50 million or $0.30 per diluted share for the prior-year second quarter. Consolidated the KBR revenue for the second quarter of 2008, totaled $2.7 billion, up almost 24% from the $2.2 billion for the second quarter of 2007.

Year-over-year improved quarterly revenue was lead by a 65% increase for services, followed by a 44% increase in for upstream, a 28% increase for technology, a 15% increase for downstream, and 50% increase of G&I. Total backlog at June 30, 2008 was $12.6 billion compared to $13.4 billion at March 31, 2008 and $13.1 billion at December 31, 2007.

During the quarter, KBR announced that it was awarded 275 million Canadian dollar contract for construction and fabrication of our LC refinery unit in Alberta Canada. KBR has not included this project in our backlog as of June 30, 2008. The project will be added to our backlog, when the notice to proceed on the contract is received from Northwest Upgrading, which is expected to occur upon the closing of project financing for the project.

Kevin will have additional comments regarding KBR's backlog during his segment of our presentation. Looking forward, I remain pleased with KBR's positioning for several large projects in the gas monetization, offshore and downstream market segments.

Let me also take a few moments, to update you on the BE&K acquisition, which was closed, on July 1, 2008. The integration of BE&K into KBR is going were well, and we have met our day one cost synergy targets. KBR also expects to exceed our year-end cost savings targets, as well. As we initially looked at BE&K, the main drivers for the acquisition were to accelerate KBR's reentry in the U.S domestic construction market and to broaden our presence in industrial services.

As our current mix of work at KBR is approximately 85% international, with a significant focus on large projects. We also believe the increased exposure to the U.S. market and to the small and midsized projects pursued by BE&K would be a good addition to our portfolio mix of business. In addition to the items described above, we are also excited about BE&K's other businesses, including the engineering business, which expands our industrial or non-several capabilities by 30%; the construction, fabrication industrial service operations in Poland and Russia; the successful track record for construction in the domestic power business, as well as the opportunities for KBR to move into the commercial buildings arena, where we expect that the combination of KBR's brand and financial capabilities will add to our business that already have a strong regional reputation based on execution skills and client satisfaction.

BE&K's work for the US Navy also complements nicely, KBR's U.S. Army work. The feedback form BE&K's customers to the KBR acquisition has been encouraging and many of our current KBR customers in traditional KBR markets such as chemicals and refining as well as historical customers important pulp, paper in power, are happy to have us back supporting their businesses again.

For the year ended March 30, 2008, BE&K had revenues up $1.937 billion. Gross profit on contracts or job income was $180 million and net income after-tax from continuing operations was $34.5 million. Backlog at June 30, 2008 was $2.01 billion broken down as follows: construction $908 million; building group, $840 million; industrial services, $113 million; government, $102 million; and downstream $49 million.

As mentioned earlier we have also been working on capturing synergies. On the cost side, we look at the economies available to the combined organization and took out positions and costs from overhead that have a projected run rate of over $13 million per year. These savings began on closing day and will be fully implemented by January 1, 2009 by which time the majority of the transition work will be complete.

KBR is also expecting to achieve revenues synergies in the following areas. Expanding the population at BE&K's engineering offices to execute KBR's future international engineering work. Leveraging BE&K's dominantly domestic customer base and product service offering through KBR's global project delivery infrastructure. And increasing the size and the volume of BE&K projects by leveraging KBR's larger balance sheet and available capital resources. We are currently mapping the BE&K business in the KBR, and will report in the combined BE&K-KBR business, beginning in the third quarter.

Now let me turn to some operational highlights for our KBR business units and updates the KBR's end markets. With respect to our upstream business unit, I would like to comment on the status of our portfolio of large lumsum, during key project. Despite the issues arising during the quarter, related to the timing of approval for a settlement agreement, each of KBR LNG projects and our other large lumsum turnkey projects remain profitable. At the end of June 2008, the Tangguh project was 93% complete and we expect the first train to complete in early 2009. The Yemen LNG project remains on track for the completion of the first train in the first half of 2009, and at the end of the second quarter the project was 85% complete.

The Skikda LNG project continues to proceed very well, and at the end of the second quarter was 23% complete. With regard to the NLNG Train 7 project in Bonny Island Nigeria, the projects anticipated final investment decision has been delayed from our previous assessments due to what we believe our events, outside the EPC contract. KBR continues to maintain a dialog with the client and stands ready to resume active discussion, when so advised by the client.

KBR's involvement on the Gorgan LNG project is continuing to ramp up, as we work on a reefed and the project was a contributor to second quarter results. We're also helping our customer in reevaluating the scope and scale of the facility as they work towards a final investment decision.

KBR continues to be successful on project awards related to offshore work. We remain very optimistic about the opportunities that are available to KBR to continue to grow this business, given the very favorable market conditions. KBR was recently awarded a fourth quarter-year contract, including an option for extension by BP to provide engineering and project management services for BP's future offshore work. KBR and KBR's subsidiaries Granherne and GVA Consultants will provide conceptual studies, front-end engineering and design, detail design and project management services for BP's global offshore projects.

This award builds on our 40-year working relationship with BP and demonstrates our abilities and track record to deliver quality and experience in the offshore arena. For government and infrastructure, we have participated in several conferences and meetings with our customer to get greater details on the scope and timings of the transition from LogCAP III to LogCAP IV. We expect the first request for proposal under the LogCAP IV contract to be issued in the coming months. However, we believe the initial task orders under LogCAP IV may be smaller in comparison to previous task orders, under LogCAP III. We expect worked under LogCAP III, to essentially continue at present levels for the remainder of 2008, and that all currently open task orders under LogCAP III, will be complete during the first quarter of 2009.

As I discussed in last quarter's call, we have concluded our detail review of material requirements to complete the scope, Skopje Embassy project. Upon this review, and as a result, of construction delays related to visa issues, KBR took an additional $3 million charge on this project during the second quarter of 2008. However, I believe barring any further unforeseen events that KBR is in position to close out construction activities for this project in a reasonable manner. At the end of June, 2008, the project was approximately 73% complete and we currently believe, this project will substantially complete by the end of this year.

KBR services business units continue to make outstanding progress. I'm very pleased with the heavy oil sands work in Canada, and the opportunities we see in the that market. Revenue grew 65% from the second quarter of 2007 with a corresponding backlog growth of 62% year-over-year.

During the second quarter of 2008, services was awarded a $275 million Canadian dollar contract for the construction of fabrication of LC refinery unit by Northwest Upgrading in Alberta Canada. The LC refinery unit scope will include prefabrication of 40 mile to be later assembled as a part of the Northwest Upgrading project and is expected to last approximately 30 months. However, as I mentioned earlier, this project will be booked in the backlog when the customers issues a notice to proceed on the project. Currently the customer is seeking a financing partner. We are confident that the project will commence later this year at which time that will booked in the KBR's backlog.

We have also experienced successes in KBR's return to the domestic construction market. As a direct result of a successful ongoing environmental construction project in the Gulf Coast region, we were subsequently award an EPC project for emissions reduction project by the client at another refinery in Texas.

For our downstream business unit, the second quarter results continue to be led by Ras Tanura and Yanbu Export Refinery projects in Saudi Arabia, as well as the EBIC Ammonia Plant in Asia. For the second quarter, we also recorded change orders for the Saudi Kayan olefins project, which converted the nature of the project from fix price to reimbursable.

The EBIC project continues to progress very well and is approximately 99% complete. Construction and commissioning is target to be completed in the first quarter of 2009. KBR's global resource pools also contributed to our success during the second quarter. Labor cost adsorption driven by volume and cost efficiency was $6 million better during the second quarter of 2008, compared to the same period in 2007.

Now I will turn the call over to Kevin. Kevin?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Okay, thanks Bill. I'll begin by reviewing KBR's consolidated second quarter of 2008 results, which primarily focuses on year-over-year comparisons.

Our consolidated KBR revenue for the second quarter of 2008 totaled $2.7 billion as compared to $2.2 billion in the second quarter of 2007. Consolidated operating income was $90 million in the second quarter of 2008 compared to income of $65 million in the second quarter of 2007. As I discussed earlier, operating income in the second quarter of 2008 included a charge related to an unfavorable jury verdict of approximately $40 million for litigation, with one of our subcontractors for work performed on the LogCAP III contract getting back to 2003, and also a $24 million charge related to timing issues related to client approval of the settlement on one L&G project. Operating income in the second quarter of 2007 included $24 million charge, related to Skopje Embassy project in Macedonia.

Upstream revenue was $699 million in the second quarter of 2008, up $214 million or 44% in the second quarter of 2007. Business unit income was $39 million of second quarter of 2008 compared to $47 million reported in the second quarter of 2007. Business unit income in the second quarter of 2008 included a $24 million reduction in estimated profits one LNG project which Bill addressed in detail earlier. Partially offsetting the year-over-year decline were increases the Skikda LNG project, the Pearl GTL project, increased work scope on the Gorgon L&G and North Ranking 2 offshore project in Australia.

Our government infrastructure revenue in the second quarter of 2008 was $1.7 billion compared to $1.5 billion for the prior year second quarter. Business unit income with $63 million in the second quarter of 2008 which included the $40 million charge related to 2003 LogCAP III subcontract and $3 million charge related to the Skopje Embassy project. This compares to $58 million in the second quarter 2007, which include a $24 million charge related Skopje Embassy project in Macedonia.

The decrease in business unit income was partially offset by higher levels of construction activity on the Allenby/Connaught project, a UK facilities project in Iraq for the Ministry of Defense, multiple water projects in Australia and Scotland.

Services revenue was $128 million in the second quarter of 2008 up from $78 million for the second quarter of 2007. Business unit income was $17 million flat compared to the prior quarter, due primarily to a positive tax credit in second quarter of 2007 associated with our service and maintenance vessels in the Gulf of Mexico. Second quarter of 2008 results benefited from work on the Scotford upgraded project in Canada and several industrial services projects.

Downstream revenue was a $101 million in the second quarter 2008 compared to $88 million for the second quarter of 2007. Business unit income was $14 million in the second quarter of 2008 compared to $1 million in the second quarter of 2007. The increase in business unit income was primarily due to a reduction in accrued project losses resulting from the Saudi Kayan olefins project change order, as well as progress on the Ras Tanura and Yanbu export refinery projects in Saudi Arabia.

Technology revenue for the second quarter of 2008 was $23 million compared to $18 million in the second quarter of 2007. Business unit income in the second quarter of 2008 was compared to $2 million in the prior year second quarter, the increase primarily relates to an ammonia process project in Venezuela and the start of an aniline project in China.

Now with respect to the ventures unit, business unit income for the second quarter of 2008 was zero compared to a loss of $1 million in the second quarter of 2007. The improvement was primarily related to the purchase and sale of pre-emption rights on two UK road projects, increased profitability on the Allenby & Connaught investment in the UK and improvements on several other road project investments. During the second quarter of 2008, losses recorded on the Alice Springs-Darwin railroad project represented the final amounts of operational losses that we recorded to achieve full impairment of KBR's push of the investment and a book value of zero. So we don't expect to record any feature operating losses on this project.

Let's review some other financial items. General and administrative expenses for the second quarter of 2008 were $52 million, down $4 million for the first quarter of 2008. For 2008, we expect recurring corporate costs to approach $200 million, excluding any impact from BE&K acquisition and we expect the additional impact to G&A expenses for BE&K to be approximately $10 million for the second half 2008. Our effective tax rate in the second quarter of 2008 was 36% flat compared to the first quarter of 2008. For the full year, we still expect our effective tax rate to be in the 38% to 39% range.

Moving on to backlog; total backlog for June 30, 2008 was $12.6 billion compared to $13.4 billion at March 31. The sequential back log decrease was primarily your to work loss from our Middle East operations. While KBR has not announced many new or large projects awards during the year, we continue to see strong scope growth in our existing projects across the company with particular emphasis in gas monetization, offshore, downstream in LogCAP III. KBR still openly expects to be successful in a number of our current large project pursuits. Overall the backlog portfolio mix at the end of the second quarter was 76% cost reimbursable, 24% fixed price, same mix as compared to the sequential quarter.

Next I'll discuss our liquidity and balance sheet. At the end of June 2008, our balance sheet remained strong with no debt in cash and cash equivalents of $1.6 billion in which $211 million is cash associated with our consolidated joint ventures. Now in addition cash and cash equivalents included $216 million from advance payments related to a contract in progress.

Total cash balances decrease by $371 million during the second quarter of 2008, primarily driven by a reduction in cash associated with our consolidated joint ventures and the amount of a $147 million and timing our LogCAP billings received there after June 30, 2008 in the amount of $156 million. So after paying $550 million for the acquisition of BE&K on July 1st, that leaves our cash balance of approximately $600 million, before other working capital needs for LogCAP and other projects.

So working capital at the end of the second quarter of 2008 was $1.6 billion, that's up slightly compared to the prior sequential quarter. Working capital in Iraq was $211 million at the end of the second quarter 2008, up approximately $49 million from the sequential quarter, again due to timing of collections.

Capital expenditures totaled $8 million and depreciation was $9 million during the second quarter of 2008. Capital expenditures were flat compare to the sequential quarter, and we've revised our expectations for capital expenditures for 2008 to be well less than $60 million from the previously discussed expectations of less then $70 million and that's excluding BE&K.

And now, I will turn the call back over to Bill, for his final remarks. Bill?

William P. "Bill" Utt - President and Chief Executive Officer

Thanks, Kevin. As you can see, the second quarter of 2008 contained a lot of moving pieces. We recognize the confusion this present when discussing the financial performance of KBR. Management is confident the underlying businesses will continue to perform as strongly as we have seen over the first half of 2008.

I wanted to briefly discuss recent press coverage related to KBR and it's work in Iraq. We have previously provided the government information related to the electrical safety issue. At Senator KC's invitation, I went to Capitol Hill last week to visit with members of Congress. I believe the meetings were fruitful and established a dialog that we hope will continue. We pledge continued cooperation with the government on this and other issues as they arise.

We look forward to expanding the thoughtful and fact-based dialog we had on Capitol Hill. KBR's steadfast commitment to the safety and security of all employees and those the company serves remains. We are proud of our work and honor to serve our trips. We remain committed to providing the highest quality service to our customer, the U.S. Military. I thank all of our employees who at risk to themselves perform this service.

When one considers where KBR has come over the past several quarters, much of this achievement is do the powerful and significant efforts by our teams across the globe. We also welcome the BE&K teams in the KBR and look forward to their contributions to KBR's continued strong performance over the years to come.

Now we'll take your questions. We ask that you please limit your comments to one question and one follow-up.

Question And Answer

Operator

[Operator Instructions]. We take the question from Barry Bannister with Stifel Nicolaus.

Barry Bannister - Stifel Nicolaus

Hi guys. Question, I notice this that you had a working capital build in the quarter and in particular, there were a couple of items that rose more than others. Could you talk about the working capital build and the cause of that on a sequential basis?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Yes, I think... it's Kevin, we try to address some of that in the remarks. Again, there was a little shift in a LogCAP III billing that was came across the quarter, that's about half of the number, really 150 million of it there and some of it just timing on some other things there. But overall, it's not really a significant change.

Barry Bannister - Stifel Nicolaus

I thought there was a bigger change in advanced billings and uncompleted contracts?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

There was a change and yes that's what we said. That was taking down some of that cash as well, right for the specific project. I think those are the two things that really answer the question of what changed in working capital there.

Barry Bannister - Stifel Nicolaus

Alright, and you didn't mentioned very much about Yanbu or Aramco-Dow in the projects discussion. What's sort of move forward are they having in relation to the kind of movement you are seeing at Gorgon?

William P. "Bill" Utt - President and Chief Executive Officer

Well, we are still seeing a number of those project offer us work releases under the contracts we have signed and they have contributed to the continuing performance of the downstream business as well as the increase in backlog of the downstream business units. So while we don't talk about in the context of an announcement, we do roll those work releases into the backlog as we receive them.

Barry Bannister - Stifel Nicolaus

But there's been have no FID on Yanbu and Dow-Aramco. You're still just doing the project management and you haven't received any sort of larger awards. Have you?

William P. "Bill" Utt - President and Chief Executive Officer

No I think both projects are looking at 2009 FID and I certainly would refer those questions to the sponsors, because we are dealing with you know what we read in the first largely in terms of their FIDs.

Barry Bannister - Stifel Nicolaus

Thanks Bill.

Operator

And your next question is from Jamie Cook with Credit Suisse.

Jamie Cook - Credit Suisse

Hi good morning. My first question, thanks for the additional info on BE&K; just a question. You said that our net income was $34.5 million, I just want to make sure that that's a clean number. So when I just think about modeling purposes going forward or just try to model for myself for 2009 and then can you give an operating profit number.

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Well Jamie the 34.5 number I quoted was the net income from continuing operations which did eliminate one timers that plus and minus that they saw during their fiscal year. So it is a clean number in our world. Now we did also give the equivalent of our job, income of $180 million which is, which I think addresses what you are looking. Because if we try to make it consistent with KBR.

Jamie Cook - Credit Suisse

Okay, sorry that's helpful. And then just a one other quick follow-up question, if you back out litigation in the G&I segment, your margins would have been, I think about 6% which is higher, I guess than I thought they would be trending. Was anything unusual in there. How should we look at the margins in that segment going forward?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

You are speaking specifically to G&I?

Jamie Cook - Credit Suisse

Yes, just in the quarter, if you back out the litigation, it looks like, the margins would have been about 6%.

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Yes, when we look at the G&I backlog at the end of the quarter compared to end of the prior quarter, while the revenue backlog went down, we are seeing the mix of work change and we are seeing particularly on our international work in Australia, in the Middle East, in the UK; higher marginal work being added in the portfolio which is we saw a resulting increase in our backlog job income percentage quarter-over-quarter.

Jamie Cook - Credit Suisse

Alright and then a last question Kevin, do you care to give any initial observations since you have been at KBR, I think six weeks or so?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

It's been a... it's a steep-learning curve. It's just kind of any new company like that and in a business that, well I had some experience with a different things that using these E&C as a client and having had the experience of being on the other side. So, I can tell you, it's been very interesting, it's been very active so.

Jamie Cook - Credit Suisse

Thanks, I will get back in queue.

Operator

[Operator Instructions] We will go next to Steven Fisher with UBS.

Steve Fisher - UBS

Hi, good morning. On the $24 million LNG charge, can you just talk about what type of costs caused the increase there? Was it materials, wages or productivity?

William P. "Bill" Utt - President and Chief Executive Officer

We were looking at client... excuse me, subcontractor incentives to put some more people on, to drive the project harder than what we were seeing in the field, and that that also the performance we saw had given rise to longer time. We weren't saying necessarily the productivity for a number of reasons in the field that we had looked out, and so even in discussing the issues and the causes of that with our customer. They agreed that there would be reasonable for us be compensated for the increased costs and the increased time that, would be required to complete the project. So it was subcontractor, construction costs as well as a component related to time extension.

Steve Fisher - UBS

And I know you do, projects in various parts of the world, but is there any sense of that, could be a similar issue on your other L&G legacy projects right now?.

William P. "Bill" Utt - President and Chief Executive Officer

No I think it's a isolated case, we do monitor these things very closely. We are much obviously it's a year on Skikda we have taken some steps on recent projects to develop a perhaps a slightly different risk allocation between KBR and the clients on the those matters given where we are on the market. But we don't see this having you any knock-on impact to our other lump some turnkey projects in our portfolio.

Steve Fisher - UBS

And when do you expect to finalize the change order?

William P. "Bill" Utt - President and Chief Executive Officer

Fundamentally we ran out of time. We have a settlement that's been initialed between our sales and the customer and that just has taken us more time to present the change order to Board of the customer, which as I mentioned was comprised of several international companies and you getting them of the background not only for what our change but also for what we understand our other matters outside the EPC contract. So, we have thought we had hoped, we had planned on hopefully getting this done this quarter. We were unsuccessful but we do view this is being likely. I have also done our checks with our partners and we are of the same view that this will get taking care over the normal course of business.

Steve Fisher - UBS

Okay great and then lastly I know you have mentioned in terms of awards the Canadian project million backlogs. Do you have the Papua New Guinea L&G fees in your Q2 backlog?

William P. "Bill" Utt - President and Chief Executive Officer

No we have not announced any awards there related to that project.

Steve Fisher - UBS

Okay thanks.

Operator

And our next question from Andy Kaplowitz with Lehman Brothers.

Andy Kaplowitz - Lehman Brothers

Good morning guys.

William P. "Bill" Utt - President and Chief Executive Officer

Good morning Andy.

Andy Kaplowitz - Lehman Brothers

Bill you talked about last quarter that you saw pretty good about several projects of going into 2Q and then beyond. I'm just wondering sort of what's going on with those projects. I mean you thought obviously Nigeria buying Train 7, but besides that are there still several sort of medium toward sized projects that are after that you could before Ras Tanura comps and before Yanbu comps and where are they?

William P. "Bill" Utt - President and Chief Executive Officer

Well we have seen, we talked about those two projects specifically for '09. I think we have also commented previously that Gorgon is also going to be an '09 FID. But we are still seeing good work flow through on those. There are also some other LNG projects that we... some we talked about and some we are following very closely that have move forward, some we are dealing with. Obviously the very volatile nature of the cost side of the industry that we are seeing and digesting that, others are working on siding issues.

So those are all you are very good prospects for us and we're still you are feeling very positive about where we stand. It's perhaps a little bit of a low going on there right now as people recalibrate based on the commodity prices both on their... what they are selling in terms of crude oil and natural gas and the escalations that we're seeing. But we're still not changed in our outlook and optimism regarding the up, the ability to get a couple of these projects signed up in the next year. And we would like to get them signed up sooner obviously, but we think they are out there and we think our positioning is very strong.

Andy Kaplowitz - Lehman Brothers

That's fair and Bill, when you are talking about obviously this situation with Jerry came up, pretty unexpectedly; is there anything else out there that we need to we just sort to keep our eye on, and given quarter we can have another charge-related some unfavorable jury verdict to the government says i.e. you did this wrong. Is anything out there that we need to focus on?

William P. "Bill" Utt - President and Chief Executive Officer

Andy, I would say first of all, I was trying to be very explicit for why we believe the jury award is just wrong. And I think we have given some good reasons why we don't think ultimately that that award will stand. Now if we can remove for the time being in my comment, the specter of a completely wrong jury award I will tell you that there are other items out there that we certainly have disclosed in our filings that we have taken provisions that we have looked at those internal counsel, outside counsel our auditors and we believe we are properly provisioned in those amounts. So, we don't see anything in the normal course of business with respect to normal evolutions of juries and matters like that that we should be concerned about. Clearly this one coming up as it did on July 23rd, it didn't gave us a lot of time to really develop our thinking on and theories of how we would talk to the judge about certifying the award, the field process and the possible recovery this to our customer. I think we are okay in terms of these other matters, particularly related G&I. But your timing and the out come of jury stuff we will have to deal with.

Andy Kaplowitz - Lehman Brothers

Okay great. Just one more quickie. You have a signed, it seems like you have a signed agreement of some sort with your customers on that $24 million change order. I know you are waiting for the board of that customer, but I am not exactly sure how the accounting works. Why do you need to take a charges, there is a very likelihood that you would get the money?

William P. "Bill" Utt - President and Chief Executive Officer

well I.... Andy there is, there are various specific provisions, within U.S GAAP giving raise to the recognition of change order, and these very honestly are different standards and exist under IFRS, the International Financial Reporting Standards. We follow U.S GAAP, we are very systematic in our view and discipline and looking at the change orders and we came to the conclusion that technically, why it is likely and why we do ultimately expect to get that change order executed, that we could not take credit for that this quarter based on our strict interpretation of U.S GAAP and that's why we have made such a very specific and precise disclosure in both our release and our call, regarding that new liens.

Andy Kaplowitz - Lehman Brothers

Okay. Thank you.

Operator

[Operator Instructions]. We will take our next question from Dan Pickering of Tudor Pickering Holt.

Dan Pickering - Pickering Energy Partners, Inc.

Good morning Bill and Kevin. Back to BE&K for a second, could you talk a little bit about where you see the organic growth prospects for the next year or so. You outlined kind of the numbers for the year ended March of '08. But is this a growth business and any of the mix changing such that the margins would look much different over the next year than they have been over the past year?

William P. "Bill" Utt - President and Chief Executive Officer

Dan, we think the business is a good business and that certainly over the near term we want BE&K to continue doing what it's doing in the manner that they have done it, they performed in their business. I think we commented in May, when we announced kind of what the expected financial impact of BE&K would be for us over the next two and half years and we haven't done enough work or seen results to make any kind of change in what we previously disclosed.

We do see, as we look at that the business, a real good opportunity to even double the size of their engineering offices. And as you know with major operations in Huston, and London these are very competitive engineering markets and for us to be able to at the very confident, capable, experienced people in Birmingham, Alabama, Riley, North Carolina and Wilmington, Delaware just to pick up three. That we think the talent can allow for an expansion and possible doubling of these offices over time. And that the markets are not nearly as comparative what we see in Huston and London. And that's somewhat an aspirational statement, we still have to go out and get... and grow the offices but we feel that there is a great opportunity for us to significantly increase our engineering capabilities, particularly on the hydrocarbon side with the acquisition of BE&K in the platform it provides us for future growth.

Dan Pickering - Pickering Energy Partners, Inc.

Okay, I guess from a reporting perspective is BE&K going to show up in a number of different divisions and how are you going to help us kind of track the progress going forward, is it just going to be sort of rolled in with all the other segments.

William P. "Bill" Utt - President and Chief Executive Officer

We are working on that right now, our initial desire is to look at our services business, where most of the BE&K will reside and attempt to present that consistent with some of our other large business units in a manner that does give you some granularity there

Dan Pickering - Pickering Energy Partners, Inc.

Okay that will be helpful. So I apologize for sort of beating the dead horses here, but if I was going to and make the assumptions that BE&K was from the mix perspective at least mutual as we step forward over to next year, I would then think about the cost saving that you outlined at the... I think it's a $13 million range on an annualized basis that sort of helps me drive down towards what I think the bottom-line impact should be, is that the right way as sort of do the math Bill?

William P. "Bill" Utt - President and Chief Executive Officer

Dan, when we put in context, we made the disclosures in May, we had done so based on our expectations of the future businesses BE&K at the time, the expected level of cost savings that we were expecting to achieve and I think I commented that we have better than that. And then we have also were looking at the expected intangible amortization associated with the acquisition and were wrestling all those things through. But largely the cost savings are embedded or some degree the cost savings are embedded in what our comments were back in May.

Dan Pickering - Pickering Energy Partners, Inc.

Okay last question then would be back to do LNG charge. Has the company ever been in the situation where you have reached an agreement like to reach at this point I understand not agreed to by the Board yet of the other side. But have you ever been in the situation where it is been agreed to at be at this level and then not actually been approved?

William P. "Bill" Utt - President and Chief Executive Officer

We are all looking around the room we are shaking our heads now. We can't recall any instance where we have had the changed order reversed as you've described.

Dan Pickering - Pickering Energy Partners, Inc.

Okay great looks like third quarter would catch that back up. Thank you.

Operator

We will go next to John Rogers of the D A Davidson.

John B. Rogers - D.A. Davidson & Co.

Hi good morning.

William P. "Bill" Utt - President and Chief Executive Officer

Good morning John.

John B. Rogers - D.A. Davidson & Co.

Bill just follow some couple of question ago you talked about some of the optimism for the project going forward could you run through again just the end markets in particular I mean you talked about NLNG with the other areas your looking at as well.

William P. "Bill" Utt - President and Chief Executive Officer

Well since I've already commented NLNG we'll move to offshore which is the other half of our upstream business and we are looking at our prospect list and our growth plans in terms of staffing for our offshore business its we think we can get a series of awards over the next year that will be we really increase our penetration, our performance in the offshore business. So we see a lot of opportunities there. we have a number of opportunities in the downstream side of our business that we are looking at and we are actually trying to take some of those projects that are on prospects list and really focus on a lesser number to drive the quality and the projects and their expected impact to KBR in a much more positive passion. So we are seeing both of those two areas look very promising.

We are certainly seeing a continued deal flow, or project flow coming out of the BE&K organization. One of the things I had some ways with the transition from announcement to closing was with their sales guys continue to sell and certainly by our early measure there are projects in the pipeline that we think could result and then continuing to give us opportunities to grow our business. So, those are the three biggest drivers we have that I comment on; offshore, downstream and services.

John B. Rogers - D.A. Davidson & Co.

Okay and the $2 billion in backlog of the ENK?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Yes, I think it was $2.01 billion.

John B. Rogers - D.A. Davidson & Co.

Is the mix there between cost plus and fixed price contracts similar to your split?

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

Yes I think we have commented that it on May that it was about identical to ours so they are about 75-25 reimbursable to fixed price.

John B. Rogers - D.A. Davidson & Co.

And with project that you are looking at going forward, any reason to think that mix is going to change either for the legacy KBR, --

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

We don't, yes I haven't seen an update to understand if it's going to change and we haven't given any instructions to change it. I would imagine that if it has a right with that type of mix that will continue to stay generally in those, in that balance.

John B. Rogers - D.A. Davidson & Co.

why are you not seeing any changes in the market I would suggest that change.

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

No we are still looking at the other customers, and there markets that should give, give us a similar composition of project type.

John B. Rogers - D.A. Davidson & Co.

Right. Thank you.

Operator

[Operator Instructions]. We will go next to Joseph Ritchie with Goldman Sachs.

Joseph Ritchie - Goldman Sachs

Good morning everyone.

William P. "Bill" Utt - President and Chief Executive Officer

Good morning.

Joseph Ritchie - Goldman Sachs

A quick question on Boney Island Train setting. You have mentioned that the project is delayed beyond you expectations and that's based on events outside of EPC. Can you talk a little bit more of that to specifically and when is the timing now for that project to get awarded and is there a possibility that the project never gets award?

William P. "Bill" Utt - President and Chief Executive Officer

We have obviously we are all aware of what's going on in Nigeria. It's still a very difficult place to do business and so there are elements we believe that are within the broader Train 7 project and perhaps even outside the Train 7 project for customers that have delayed this. We think fundamentally that the Train 7 project is a standalone project that will be executed on its merits. When this will happen we can't comment specifically given all the external factors that are involved. But from what we have seen and what we believe it's a very good project that will ultimately get built when it is... when our customers determine when it's appropriate to build it.

Joseph Ritchie - Goldman Sachs

Okay, great, thanks for that color and then on BE&K when I take a look at the breakdown that you gave earlier, your backlog. Primarily most of that businesses is construction and given that your non-residence construction and in the U.S. is starting to show some signs of slowing down. I was just wondering what your thoughts were in terms of the growth trajectory of some of those segments?

William P. "Bill" Utt - President and Chief Executive Officer

Well the buildings group's largest element is healthcare and we haven't seen and we are talking to the management this week about their markets and the conditions. They believe that the healthcare and the educational market will be... will remain very strong and so, we are very optimistic about the continued performance of the building group with those two markets. In terms of the other construction business, we have seen the volumes that certainly in the proposals that are being submitted that we haven't seen a slowdown, they do some projects in the chemical and petrochemical side that are traditional KBR markets. We are seeing good activity in the power segment that BE&K has developed a very good track record on it. We are hoping that we will be able to continue to be an active participant in the construction of power projects. So, we feel pretty good at this stage and we are certainly we are mindful of what's happening in the U.S. domestic market, but the positioning of the BE&K businesses and the resulting activity that we see to-date, looks pretty good.

Joseph Ritchie - Goldman Sachs

Hey great. Thanks for taking my question.

Rob Kukla, Jr. - Director, Investor Relations

Hey Stephanie looks, we have time for one more question please.

Operator

We'll take a follow up from the Barry Bannister from Stifel Nicolaus.

Barry Bannister - Stifel Nicolaus

Guys, last quarter you said that Skopje was going to be audit to what you had already purchase, because you bided on a template and it looks like it had to be customized. It only moved forward 5% in the quarter, can you give us an update on the procurement risk and also the local labor risk of why is it a small movement?

William P. "Bill" Utt - President and Chief Executive Officer

Of the $3 million charge we took about half of that was related to the visa issues encountered of getting our construction forces on sight, and that contributed to the lower expected progress that we achieved during the quarter. The other half was largely represented by your expediting and freight as well as additional project management costs with respect to the inventories it was a less an $0.5 million type of adjustment within $3 million.

Barry Bannister - Stifel Nicolaus

Okay and then, on BE&K, the gross margin is about 9.5 which is about average for an engineer. But, it's 1.8 in a net margin which is very low. Would you talk about the G&A level in the company as well the tax rate that they were employing.

T. Kevin DeNicola - Senior Vice President and Chief Financial Officer

I am, yes I am not prepared to talk about their tax. I don't really have that. We can certainly get back to you with analysis that we know. But certainly the cost that we took at closing and that we expect to achieve sitting four weeks after we closed the transaction of $13 million a year, our evidence to the G&A as part of the broader KBR platform, we are going to achieve, and we don't need that level of G&A. We are hopeful that as time goes on would be able to identify further synergies or opportunities to reduce cost and increase efficiency but, certainly with respect to what we were targeting, in terms of getting the transaction approved, signed up and announced, we have exceeded our expectations at $13 million a year.

Barry Bannister - Stifel Nicolaus

Okay and then just a housekeeping; if you do receive back the $0.09 a share from Tangguh when the Board meets, could you press release that?

William P. "Bill" Utt - President and Chief Executive Officer

we have not disclosed the project where the $0.09 occurred and I am, I don't know that we will or not because the we'll have to look at the materiality of it.

Barry Bannister - Stifel Nicolaus

Okay and then am I correct in saying that your earnings before the charges was really $0.47 I believe most investors start with 46 with the paragraph with press release left out I believe left out the Skopje Embassy, which was penny?

William P. "Bill" Utt - President and Chief Executive Officer

That's correct. We certainly, when we look at the quarter, we thought we had a very good quarter at KBR. The underlying business are continuing to show improvement, they are continuing to perform. You can look at what we've said on revenues and job incomes, any of the progress we've made on reducing overheads, the labor absorptions or the efficiency of the business is very strong and at we peel back and think about the quarter, yes we are some what disappointed by these one-off items one of which was July 23rd which was unfortunate. But as we look at this, we feel very confident that we did have a strong performance and in terms how we talk about the quarter at KBR, we considered the $0.46, $0.47 quarter.

Barry Bannister - Stifel Nicolaus

Thanks a lot.

William P. "Bill" Utt - President and Chief Executive Officer

Thank you.

Rob Kukla, Jr. - Director, Investor Relations

That's it Stephanie.

Operator

Thank you. That will conclude our teleconference. Thank you all for your participation and have a great day.

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Source: KBR, Inc. Q2 2008 Earnings Call
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