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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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Form 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(d)
OF
THE SECURITIES EXCHANGE ACT OF 1934
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For the fiscal year ended December 31, 1998
Commission File No. 1-12248
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ICF KAISER INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 54-1437073
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation or
organization)
9300 Lee Highway, Fairfax, Virginia
(Address of principal executive offices)
22031-1207
(Zip Code)
Registrant's telephone number, including area code: (703) 934-3600
Name of each exchange on which registered:
New York Stock Exchange
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $0.01 per share
Preferred Stock Purchase Rights
Securities registered pursuant to Section 12(g) of the Act: None
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 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 the past 90 days.
Yes No. X
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of Common Stock held by non-affiliates of the
registrant was $14.5 million based on the New York Stock Exchange Composite
Tape closing price of $0.75 on March 31, 1999.
On March 31, 1999, there were 24,270,978 shares of Common Stock outstanding.
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PART I
Item 1. Business
ICF Kaiser International, Inc., through its operating subsidiaries, is one
of the nation's largest engineering, construction, program management, and
consulting services companies. In 1998, the Company's Environment and
Facilities Management (EFM), ICF Kaiser Engineers and Constructors (E&C), and
Consulting Groups provided fully integrated services in the public and private
sectors in a variety of areas, including the environment, infrastructure,
transportation, industry, energy, information technology, housing, economic
development, and microelectronics markets. In 1999, the Company sold certain
of its assets and, as a result, ceased certain of its operations. The
"Company" or "ICF Kaiser" in this Report refers to ICF Kaiser International,
Inc. and/or any of its consolidated subsidiaries.
In the second half of 1998, the Board of Directors formed a Special
Committee to consider strategic alternatives for the Company. The Committee
was formed in response to strains brought about by cost overruns associated
with certain Nitric Acid Projects. The Special Committee engaged a financial
advisor and, with its assistance, evaluated various opportunities available to
the Company, including the sale of one or more of the Company's operating
groups.
In March 1999, the Company entered into an agreement pursuant to which it
agreed to sell the majority of its active contracts, and to transfer certain
personnel--all related to its EFM Group--to The IT Group, Inc. of Monroeville,
Pennsylvania, for proceeds of $82 million, less $8 million retained by The IT
Group, Inc. for working capital. The sale closed on April 9, 1999. The Company
retained the net working capital assets of the EFM Group and its 50% ownership
interest in Kaiser-Hill Company, LLC, the entity that serves as the
integrating management contractor at the U.S. Department of Energy's Rocky
Flats Environmental Technology Site near Denver, Colorado.
Also in March 1999, the Company signed a letter of intent to sell its
Consulting Group to certain members of that Group's current management and CM
Equity Partners, L.P. (CMEP), an equity investment firm based in New York
City, for aggregate consideration of approximately $75 million. As of the date
of this Annual Report Form 10-K, the Company expects the sale to be completed
by mid-1999.
Upon completion of the Consulting Group sale, management will focus on
efforts to realign and restructure its remaining operations, largely the E&C
operations, to return the Company to profitability. The E&C Group has
performed a mixture of public- and private-sector engineering and construction
work since the inception of its predecessor, Kaiser Engineers, in 1914.
Unless otherwise noted, all discussions contained in this Report reflect the
historical business operations of the Company during 1998 and prior.
Specifically, the Company's financial information included in this Report does
not give effect to the transactions discussed above or any other events that
have occurred since December 31, 1998.
Certain financial data as of and for the years ended December 31 is as
follows:
1998 1997 1996
---------- ---------- ----------
(in thousands)
Gross revenue................................ $1,210,421 $1,108,116 $1,248,443
Service revenue.............................. $ 345,462 $ 426,086 $ 532,116
Operating income (loss)...................... $ (78,361) $ 18,069 $ 21,180
Assets....................................... $ 419,836 $ 399,288 $ 365,973
Most of the Company's contract backlog is related to public- and private-
sector engineering and construction projects that span from one to five years.
The Company ended 1998 with $3.2 billion in contract backlog. The backlog of
the EFM and Consulting Groups totaled $658 million and $540 million,
respectively, at December 31, 1998. The Company expects to work off 42% of the
$2 billion backlog of the E&C Group and
1
Kaiser-Hill. The reduction from $4.1 billion at December 31, 1997 is due
primarily to the completion of another year of the Kaiser-Hill Rocky Flats
contract, resulting in the conversion of approximately $632.6 million of the
1997 backlog into revenue in 1998. Exclusive of the Rocky Flats backlog at
December 31, 1998, the Company's backlog decreased by 5.8% from December 31,
1997.
The Company's headquarters is located at 9300 Lee Highway, Fairfax, Virginia
22031-1207, and its telephone number is (703) 934-3600. The Company's four
regional headquarters are located as follows:
Western United States Eastern United States Asia/Pacific Europe/Africa/Middle East
- --------------------- --------------------- ------------ -------------------------
2101
Webster
Street Gateway View Plaza Q.V. 1 Building, Regal House,
Suite
1000 1600 West Carson St George's Terrace, London Road,
Oakland,
CA Pittsburgh, PA Perth, WA 6000 Australia Twickenham, Middlesex,
94612-
3060 15219 61-89-366-5366 TW1-3QQ, England
(510)
419-
6000 (412) 497-2000 44-181-892-4433
Other domestic offices include Tempe, Arizona; Los Angeles, Sacramento, San
Diego, San Rafael, and Sherman Oaks, California; Mystic, Connecticut; Golden,
Colorado; Washington, DC; Brooksville, Ft. Lauderdale, Jacksonville, Lake
City, Miami, Orlando, Ruskin, and Tampa, Florida; Atlanta, Georgia; Boise,
Idaho; Ashland and Hawesville, Kentucky; Ruston, Louisiana; Baltimore,
Beltsville and Lexington Park, Maryland; Boston, Massachusetts; Kansas City,
Missouri; Albuquerque, New Mexico; New York City; Greensboro and Research
Triangle Park, North Carolina; Middletown, Pennsylvania; Baytown and Houston,
Texas; Lehi and Ogden, Utah; Richmond, Virginia; and Seattle, Washington. The
Company's other international offices include Brisbane and Sydney, Australia;
Toronto, Ontario, Canada; Ostrava and Prague, Czech Republic; Paris, France;
Hong Kong; Budapest, Hungary; Mexico City, Mexico; Rio de Janeiro, Brazil;
Manila, the Philippines; Lisbon, Portugal; Moscow, Russia; and Istanbul,
Turkey. Before the sale of its Environment and Facilities Management Group,
the Company also had offices at Sacramento, California; Lakewood, Colorado;
Titusville, Florida; Savannah, Georgia; Chicago, Illinois; Edgewood and
Hollywood, Maryland; Las Vegas, Nevada; Iselin and Mount Arlington, New
Jersey; Los Alamos and Santa Fe, New Mexico; Albany and Tonawanda, New York;
Greensboro, North Carolina; and Richland, Washington.
ICF Kaiser International, Inc. is a Delaware corporation incorporated in
1987 under the name American Capital and Research Corporation. It is the
successor to ICF Incorporated, a nationwide consulting firm organized in 1969.
In 1988, the Company acquired the Kaiser Engineers business, which dates from
1914. As of March 31, 1999, ICF Kaiser had 4,854 employees. Following the
completion of the EFM sale on April 9, 1999, there were 583 fewer employees.
Overview of Markets Served by the Company
Environmental. In the environmental market in 1998, the Company provided
services in connection with the remediation of hazardous and radioactive
waste, waste minimization and disposal, risk assessment, global
warming and acid rain, alternative fuels, and clean up of harbors and
waterways. Demand for ICF Kaiser's environmental services was driven by a
number of factors, including the need to restore contaminated sites formerly
used for weapons production or military bases; the need to comply with
federal, state, and municipal environmental regulation and enforcement
regarding the quality of the environment; the need to bring aging production
facilities into compliance with current environmental regulations; the need to
minimize waste generation on an ongoing basis; and the need to reduce or
forestall liability associated with pollution-related injury and damage. In
addition, there is a growing international market arising from the increased
awareness of the need for additional and/or initial environmental regulations,
studies, and remediation.
A significant portion of future U.S. Departments of Defense (DOD) and Energy
(DOE) environmental expenditures will be directed to cleaning up hundreds of
military bases with thousands of contaminated sites and to restoring
contaminated former nuclear weapons facilities. DOD has stated that there is
an urgent need to ensure that the hazardous wastes present at these sites
(often located near population centers) do not pose a threat
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to the surrounding population, and, in connection with the closure of many
military bases, there is an economic incentive to make sure that the
environmental restoration enables these sites to be developed commercially by
the private sector. DOE has long recognized the need to stabilize and safely
store nuclear weapons materials such as plutonium, to clean up areas
contaminated with hazardous and radioactive waste, and restore the weapons
sites to the public.
Significant environmental laws have been enacted in the United States in
response to public concern about the environment. These laws and the
implementing regulations affected nearly every industrial activity, and
efforts to comply with the requirements of these laws, create demand for the
Company's services. The principal federal legislation that has created a
substantial market for the Company, and therefore has the most significant
effect on the Company's business, includes the following: The Comprehensive
Environmental Response, Compensation and Liability Act (CERCLA) of 1980, as
amended by the Superfund Amendments and Reauthorization Act (SARA) of 1986,
established the Superfund program to clean up existing, often abandoned,
hazardous waste sites and provides for penalties and punitive damages for
noncompliance with U.S. Environmental Protection Agency (EPA) orders. The
Resource Conservation and Recovery Act (RCRA) of 1976, as amended by the
Hazardous and Solid Waste Amendments of 1984 (HSWA), provides a comprehensive
scheme for the regulation of hazardous waste from the time of generation to
its ultimate disposal (and sometimes thereafter), as well as the regulation of
persons engaged in the treatment, storage, and disposal of hazardous waste.
The Clean Air Act as amended in 1970 empowered EPA to establish and enforce
National Ambient Air Quality Standards, National Emission Standards for
Hazardous Air Pollutants, and limits on the emission of various pollutants.
The 1990 amendments to the Clean Air Act substantially increased the number of
sources emitting a regulated air pollutant which will be required to obtain an
operating permit; the amendments also address the issues of acid rain and
ozone protection. The Clean Water Act of 1972, originally the Federal Water
Pollution Control Act of 1948, established a system of standards, permits, and
enforcement procedures for the discharge of pollutants to surface water from
industrial, municipal, and other wastewater sources. The Toxic Substance
Control Act, enacted in 1976, established requirements for identifying and
controlling toxic chemical hazards to human health and the environment.
Infrastructure and Transportation. Both the domestic and international
infrastructure and transportation markets are driven by the need to maintain
and expand ports, roads, highways, rail and bus systems, bridges, people
movers, airports, and water resource facilities. Increasingly, environmental
concerns, such as wastewater treatment and the reduction of automotive air
pollutant emissions, have become a driving force behind new infrastructure and
transportation initiatives. These markets primarily are funded by government
dollars, although the private sector is seeking an increased role,
particularly in international projects where there is a critical need for
infrastructure and transportation projects because of the population growth of
major cities.
Industry. The industry market in a modern, global economy provides the base
for the production of industrial metals and chemicals. This market is driven
by the need to maintain and retrofit existing plants, to build new facilities
such as those required for the burgeoning microelectronics industry, to
replace aging production capacity with newer, more efficient and more
environmentally responsible facilities, and to reduce costs, improve quality,
and enhance competitiveness. Basic industrial materials include iron, steel,
alumina/aluminum, chemicals, and copper.
Other Markets. Traditionally DOD has maintained most of its own facilities
and performed its own facility activities, but it is now in the process of
transferring many of these responsibilities to private contractors and private
owners. The "privatization" market has been created by the government's
selling an asset or revenue stream--such as military housing and electric,
water, and wastewater utilities on a military base--to a private company,
which is then responsible for maintenance and operation. The "outsourcing"
market has been created by private contractors' taking over site activities
currently conducted by government, often military, personnel. The information
technology market is driven by the increasing need for software and software
tools to manage such diverse activities as financial management, accounting,
and reporting capabilities; forecasting wholesale power pricing by independent
and electric bulk power marketers; energy-use patterns; and energy use,
billing, and monitoring.
3
Business Groups
During the fiscal year ended December 31, 1998, the Company was organized
into three business groups: Environment and Facilities Management (EFM); ICF
Kaiser Engineers and Constructors (E&C); and Consulting. Please refer to the
Company's consolidated financial statements for information concerning the
historical financial performance of each of these Groups. In April 1999, the
Company sold certain assets related to its EFM Group. See above. Following is
a description of each business group's activities.
Environment and Facilities Management (EFM)
Before the sale of the EFM Group, the Company's largest single contract was
managed by the EFM Group and performed through Kaiser-Hill Company, LLC, a
limited liability company owned equally by the Company and CH2M Hill
Companies, Ltd. (Kaiser-Hill). After the EFM sale, the Company retained its
50% ownership of Kaiser-Hill. In 1995, Kaiser-Hill won DOE's Performance Based
Integrating Management contract at DOE's Rocky Flats Environmental Technology
Site near Denver, Colorado. Rocky Flats is a former DOE nuclear weapons-
production facility, and under the five-year contract, Kaiser-Hill is working
to stabilize and safely store more than 14 tons of plutonium at the site, to
clean up areas contaminated with hazardous and radioactive waste, and to
restore much of the 6,000-acre site to the public.
The EFM Group oversaw major program management and technical support
contracts for U.S. government agencies, particularly DOE and DOD. Examples of
the Group's projects in 1998 include providing technical support for
environmental restoration projects at certain of DOE's former weapons
production facilities; conducting hazardous, toxic, and radioactive waste
cleanups for the U.S. Army under two Total Environmental Restoration Contracts
(TERC); and providing technical and analytical support to the EPA Superfund,
RCRA, and other environmental programs. Another focus of this Group was to
provide support to DOD's privatization and outsourcing initiatives. As part of
a joint venture, the group provided facilities management support to NASA and
the U.S. Air Force at the Kennedy Space Center and nearby rocket launch sites
under a $2.2 billion contract.
Under the multi-year TERC contracts, the EFM Group provided environmental
restoration services to the U.S. Army Corps of Engineers (USACE) at federal
installations in California, Arizona, Nevada, and Utah (USACE South Pacific
Division) and in the Eastern Atlantic states encompassing USACE's Baltimore,
Maryland, District. The services provided under the TERCs include remedial
investigation and feasibility studies of contaminated sites and performing
remedial action and site cleanup activities. The Group also provided
environmental services to USACE, Savannah (Georgia) District, under several
contracts, including a contract to support the Corps' South Atlantic Division.
Tasks performed by the Group under this contract include site assessments,
risk assessments, remedial investigations, feasibility studies, remedial
design, and construction support at sites throughout the Savannah District,
especially at the Milan Army Ammunition Plant in Tennessee. Under a similar
contract with the U.S. Army Environmental Center, the Group provided a full
range of technical support for site investigation and remediation projects at
Aberdeen Proving Ground and other Army facilities. Under contracts with DOE,
the Group also conducted environmental restoration and cleanup activities at
DOE's Los Alamos National Laboratory in New Mexico and provided support
services for major projects at DOE's Hanford Site in Richland, Washington.
The Environment and Facilities Management Group was responsible for all of
the Company's environmental services to private-sector businesses, including
compliance planning, audits, and permitting; risk assessment, site
investigations, and feasibility studies; remedial design, construction, and
construction management; operation and maintenance of remedial systems;
decontamination and decommissioning of facilities; and community relations,
Clean Air Act strategies, and expert witness support. Private-sector
environmental clients include chemical plants; aerospace manufacturers; iron,
steel, and aluminum producers; oil and gas refineries; pharmaceutical
companies; the communications industry; and heavy industrial manufacturers.
Representative projects included providing remedial design, procurement, and
construction management services for a Superfund site remediation project; and
engineering and specification development for an in-situ groundwater
remediation system at a paint manufacturing facility in Maryland.
4
ICF Kaiser Engineers and Constructors (E&C)
All of the E&C Group's markets are global in nature, and the Group provides
engineering, procurement, construction, program management, and consulting
services in numerous technology sectors through companies managed and staffed
by local professionals in Australia, Brazil, the Czech Republic, England,
France, the Philippines, Portugal, Taiwan, Turkey, and the United States, as
well as through project offices throughout the world. To capitalize on
international opportunities while minimizing its business development risks,
the Group has established international business relationships through joint
ventures, marketing agreements, and direct equity investments.
Industry Services. The E&C Group's engineering, procurement, construction,
project management, and consulting services to the industrial market involve
work with the iron, steel, alumina/aluminum, copper, and other minerals and
metals industries, as well as chemicals and heavy manufacturing. Current
projects include detailed design engineering, procurement, and construction
management for the expansion of an alumina refinery in Western Australia;
engineering and design services for an aluminum smelter expansion project in
the Midwestern United States; and upgrades for coke manufacturing operations
at a major steelmill in China.
The Group assists clients in private industry by providing the engineering,
construction, and program management skills needed to maintain and retrofit
existing plants and replace aging production capacity with newer, more
environmentally responsible facilities. A very significant international
industrial project is a mini-mill project for Nova Hut, a.s., an integrated
steel maker based in the Ostrava region of the Czech Republic. In March 1996,
ICF Kaiser was awarded a contract to provide turnkey engineering and
construction of the first phase of a facility that will receive liquid steel
from Nova Hut's existing steelmaking facilities. The facility will include a
ladle metallurgy furnace and a single-strand dual slab caster. ICF Kaiser also
is responsible for site development and related infrastructure. The successful
startup in late 1997 included preliminary acceptance of the first phase of the
facility by the owners, as well as production of steel ahead of schedule.
Under a second-phase contract awarded in 1997, the E&C Group is installing an
equalizing furnace, a reversing two-stand steckel mill, and associated
facilities. It is expected that the second phase will be completed in late
1999.
Infrastructure Services. The E&C Group provided engineering and construction
management services to build rail and bus systems, highways and bridges,
airports, high-speed rail, peoplemovers, and water resources projects in
domestic and international markets. Infrastructure funding at the federal,
state, and local levels is expected to increase in 1999, which will provide
opportunity for growth in the Group's infrastructure services business. The
Group currently is active in major U.S. metropolitan areas, providing
planning, design, construction management, and program management services in
Seattle (light rail project), San Francisco (commuter rail system renovation),
and Orlando (light rail initiative).
In the international infrastructure market, the Group's large-scale
construction infrastructure skills are at work in Manila, the Philippines,
where it is the program manager for the construction of a light rail transit
line, a project for which ICF Kaiser supported development and financing since
inception; in Portugal, where the Group provides program management of the
overhaul and upgrade of Portugal's main intercity freight and passenger rail
lines; and in Turkey, where the Group is providing construction management
services for the first phase of a light rail system as part of a joint
venture.
The major ports of many of the world's cities have serious water pollution
problems, and the E&C Group is helping to improve the condition of many
harbors and waterways. In its largest harbor project, the Group continues as
the construction manager of the cleanup of Boston Harbor, one of the largest
environmental projects in the country, under a contract extension that runs
through 2002. Since the inception of the project in 1988, the Group has served
as its construction manager and currently manages construction workers,
engineers, architects, and support personnel working to construct a wastewater
treatment plant on Deer Island in Boston Harbor,
5
Massachusetts. The Group also is providing construction management services
for the construction of the Walnut Hill Water Treatment Facility for the
metropolitan Boston area. In Brazil, the E&C Group is providing program
management services for the construction of sanitation and wastewater systems
for communities surrounding Guanabara Bay.
Consulting
The Consulting Group serves customers in domestic and international markets,
including both public- and private-sector organizations. Among its major
customers are U.S. government agencies, especially EPA; U.S. private-sector
organizations, particularly major energy producers, such as utilities and oil
companies; and governments and businesses around the world, as well as
multinational banks, development organizations, and treaty organizations. The
Consulting Group draws upon the talents of its multidisciplinary professional
staff to support customers within five lines of business.
In March 1999, the Company signed a letter of intent to sell its Consulting
Group to certain members of that Group's current management and CM Equity
Partners, L.P. (CMEP), an equity investment firm based in New York City, for
aggregate consideration of approximately $75 million. The Company expects the
sale to be completed by mid-1999.
Energy. This line of business supports the development of corporate and
technical plans for managing power resources and energy projects (including
transmission and distribution, power generation, and customer service),
provides economic assessments of short- and long-term market conditions for
various fuels, and provides expert support in litigation and regulatory
proceedings. The Consulting Group assists its customers in identifying market
opportunities, commercializing new technologies, and developing public policy;
it links energy markets with energy technology.
Environmental. This line of business assists customers in developing plans
and policies, evaluating options for managing environmental responsibilities
in the most cost-effective manner, and identifying and employing the best
available technologies and practices. The Group has special expertise in such
areas as industrial and municipal waste management, air pollution control,
chemical accident prevention, and groundwater and drinking water management.
The Consulting Group also provides technical and regulatory support to EPA's
Office of Solid Waste, focusing on human health and ecological risk assessment
and waste characterization.
Global environmental issues are also a particular area of focus within the
Consulting Group. The Consulting Group works with U.S., international, and
private-sector organizations that fund global environmental work and has been
actively involved in supporting international environmental treaties. Working
on global change issues for EPA for 16 years, the Company supports the EPA's
Global Change Division, providing services related to the reduction of methane
and other greenhouse gases.
Transportation. Transportation-related capabilities include an in-depth
working knowledge of the legislative and policy issues facing the
transportation industry; broad modeling and economic analytical capabilities
that evaluate the full range of economic and policy trade-offs inherent in
transportation decisions; and extensive planning and mission support
experience with multinational and government organizations that operate in
transportation-related areas throughout the globe.
Economic and Community Development. This practice provides training,
technical assistance, program support, and research services related to
affordable housing and community development. Additionally, the Consulting
Group helps federal agencies, cities, states, and nonprofit organizations to
design and implement programs that provide affordable, cost-effective housing,
to promote business and economic development, and to help revitalize
deteriorated neighborhoods.
Information Management. The Group assists clients in developing decision
support systems that facilitate the collection and use of information to track
performance, identify opportunities, and improve decision making.
6
The Group offers a number of simulation models and proprietary applications.
By combining consulting expertise with information technology skills, the
Group helps its customers deal with the unique challenges of their business
environments.
General Information about the Company
Competition and Contract Award Process
The market for the Company's services is highly competitive. The Company and
its consolidated subsidiaries compete with many other engineering,
construction, program management, and consulting services firms ranging from
small firms to large multinational firms having substantially greater
financial, management, and marketing resources than the Company. Other
competitive factors include quality of services, technical qualifications,
reputation, geographic presence, price, and the availability of key
professional personnel.
Private-Sector Work. Competition for private-sector work generally is based
on several factors, including quality of work, reputation, price, and
marketing approach. The Company's objective is to establish and maintain a
strong competitive position in its areas of operations by adhering to its
basic philosophy of delivering high-quality work in a timely fashion within
its clients' budget constraints.
Public-Sector Work. Most of the Company's contracts with public-sector
clients are awarded through a competitive bidding process that places no limit
on the number or type of offerors. The process usually begins with a
government Request for Proposal (RFP) that delineates the size and scope of
the proposed contract. Proposals are evaluated by the government on the basis
of technical merit (for example, response to mandatory solicitation
provisions, corporate and personnel qualifications, and experience) and cost.
The Company believes that its experience and ongoing work strengthen its
technical qualifications and, thereby, enhance its ability to compete
successfully for future government work.
Teaming Arrangements and Joint Ventures. In both the private and public
sectors, the Company, acting either as a prime contractor or as a
subcontractor, may join with other firms to form a team or a joint venture
that competes for a single contract or submits a single proposal. Because a
team of firms or a joint venture almost always can offer a stronger set of
qualifications than any firm standing alone, these arrangements often are very
important to the success of a particular competition or proposal. The Company
maintains a large network of business relationships with other companies and
has drawn repeatedly upon these relationships to form winning teams.
Contract Structure. The Company's consolidated subsidiaries operate under a
number of different types of contract structures with its private- and public-
sector clients, the most common of which are Cost Plus and Fixed Price. Under
Cost-Plus contracts, the Company's costs are reimbursed with a fee (either
fixed or percentage of cost) and/or an incentive or award fee offered to
provide inducement for effective project management. A variation of Cost Plus
contracts are time-and-materials contracts under which the Company is paid at
a specified fixed hourly rate for direct labor hours worked. Under Fixed-Price
contracts, the Company is paid a predetermined amount for all services
provided as detailed in the design and performance specifications agreed to at
the project's inception, and under which the Company retains more performance
risk than under Cost-Plus contracts. While these Fixed-Price contracts can
result in higher profit margins, they also can be costly if the Company
experiences cost overruns that are not recoverable from the client.
Customers
The Company's domestic clients include DOE and other federal departments and
agencies; major corporations in the energy, transportation, chemical, steel,
aluminum, mining, and manufacturing industries; utilities; and a variety of
state and local government agencies throughout the United States. DOE
accounted for approximately 54% of the Company's consolidated gross revenue
for the year ended December 31, 1998, approximately 56% for the year ended
December 31, 1997, and approximately 69% for the year ended December 31, 1996.
7
The Company's international clients include both private firms and foreign
government agencies. For the years ended December 31, 1998, 1997, and 1996,
foreign clients accounted for approximately 10.1%, 14.2%, and 5.8% of the
Company's consolidated gross revenue, respectively. For information concerning
gross revenue, operating income, and identifiable assets of the Company's
business by geographic area, see Note 12 to the consolidated financial
statements.
Backlog
Backlog refers to the aggregate amount of gross contract revenue remaining
to be earned pursuant to signed contracts extending beyond one year. The
Company ended 1998 with $3.2 billion in contract backlog. The backlog of the
EFM and Consulting Groups totaled $658 million and $540 million, respectively,
at December 31, 1998. The Company expects to work off 42% of the $2 billion
backlog. The reduction from $4.1 billion at December 31, 1997 is due primarily
to the completion of another year of the Kaiser-Hill Rocky Flats contract,
resulting in the conversion of approximately $632.6 million of the 1997
backlog into revenue in 1998. Exclusive of the Rocky Flats backlog at December
31, 1998, the Company's backlog decreased by 5.6% from December 31, 1997.
Because of the nature of its contracts, the Company does not calculate the
amount or timing of service revenue that might be earned pursuant to these
contracts. The Company believes that backlog is not a predictor of future
gross or service revenue.
Differences in contracting practices between the public and private sectors
result in the Company's backlog being weighted heavily toward contracts
associated with departments and agencies of the federal government. Backlog
under contracts with the federal government that extend beyond the
government's current fiscal year includes the full contract amount, including,
in many cases, amounts anticipated to be earned in option periods and certain
performance fees, even though annual funding of the amounts under such
contracts generally must be appropriated by Congress before funds can be
expended during any year under such contracts. In addition, departments and/or
agencies must allocate the appropriated funds to these specific contracts and
thereafter authorize work or task orders to be performed under these specific
contracts. Such authorizations are generally for periods considerably shorter
than the duration of the work the Company expects to perform under a
particular contract and generally cover only a percentage of the contract
revenue. Because of these factors, the amount of federal government contract
backlog for which funds have been appropriated and allocated, and task orders
issued, at any given date is a substantially smaller amount than the total
federal government contract backlog as of that date. In the event that option
periods under any given contract are not exercised or funds are not
appropriated, allocated, or authorized to be spent under any given contract,
the amount of backlog attributable to that contract would not result in
revenue to the Company. All contracts and subcontracts with departments and/or
agencies of the federal government are subject to termination, reduction, or
modification at any time at the discretion of the government.
Potential Environmental Liability
The assessment, analysis, remediation, handling, management, and disposal of
hazardous substances necessarily involve significant risks, including the
possibility of damages or personal injuries caused by the escape of hazardous
materials into the environment, and the possibility of fines, penalties, or
other regulatory action. These risks include potentially large civil and
criminal liabilities for violations of environmental laws and regulations, and
liabilities to customers and to third parties for damages arising from
performing services for clients.
Potential Liabilities Arising Out of Environmental Laws and Regulations
All facets of the Company's business are conducted in the context of a
rapidly developing and changing statutory and regulatory framework. The
Company's operations and services are affected by and subject to regulation by
a number of federal agencies, including EPA and the Occupational Safety and
Health Administration, as well as applicable state and local regulatory
agencies.
8
CERCLA addresses cleanup of sites at which there has been a release or
threatened release of hazardous substances into the environment. Increasingly,
there are efforts to expand the reach of CERCLA to make environmental
contractors responsible for cleanup costs by claiming that environmental
contractors are owners or operators of hazardous waste facilities or that they
arranged for treatment, transportation, or disposal of hazardous substances.
Several recent court decisions have accepted these claims. Should the Company
be held responsible under CERCLA for damages caused while performing services
or otherwise, it may be forced to bear such liability by itself,
notwithstanding the potential availability of contribution or indemnity from
other parties.
RCRA governs hazardous waste generation, treatment, transportation, storage,
and disposal. RCRA, or EPA-approved state programs at least as stringent,
govern waste handling activities involving wastes classified as "hazardous."
Substantial fees and penalties may be imposed under RCRA and similar state
statutes for any violation of such statutes and the regulations thereunder.
Potential Liabilities Involving Clients and Third Parties
In performing services for its clients, the Company could potentially be
liable for breach of contract, personal injury, property damage, and
negligence (including improper or negligent performance or design, failure to
meet specifications, and breaches of express or implied warranties). The
damages available to a client, should it prevail in its claims, are
potentially large and could include consequential damages.
Environmental contractors, in connection with work performed for clients,
potentially face liabilities to third parties from various claims, including
claims for property damage or personal injury stemming from a release of
hazardous substances or otherwise. Claims for damage to third parties could
arise in a number of ways, including through a sudden and accidental release
or discharge of contaminants or pollutants during the performance of services;
through the inability, despite reasonable care, of a remedial plan to contain
or correct an ongoing seepage or release of pollutants; through the
inadvertent exacerbation of an existing contamination problem; or through
reliance on reports or recommendations prepared by the Company. Personal
injury claims could arise contemporaneously with performance of the work or
long after completion of the project as a result of alleged exposure to toxic
or hazardous substances. In addition, increasing numbers of claimants assert
that companies performing environmental remediation should be adjudged
strictly liable, i.e., liable for damages even though its services were
performed using reasonable care, on the grounds that such services involved
"abnormally dangerous activities."
Clients frequently attempt to shift various liabilities arising out of
remediation of their own environmental problems to contractors through
contractual indemnities. Such provisions seek to require the Company to assume
liabilities for damage or personal injury to third parties and property and
for environmental fines and penalties. The Company has endeavored to protect
itself from potential liabilities resulting from pollution or environmental
damage by obtaining indemnification from its private-sector clients and
intends to continue this practice in the future. Under most of these
contracts, the Company has been successful in obtaining such indemnification;
however, such indemnification generally is not available if such liabilities
arise as a result of breaches by the Company of specified standards of care or
if the indemnifying party has insufficient assets to cover the liability. The
Company will continue its efforts to minimize the risks and potential
liability associated with its remediation activities by performing all
remediation contracts in a professional manner and by carefully reviewing any
and all remediation contracts it signs in an effort to ensure that its
environmental clients accept responsibility for their own environmental
problems.
For EPA contracts involving field services in connection with Superfund
response actions, the Company is eligible for indemnification under Section
119 of CERCLA for pollution and environmental damage liability resulting from
release or threatened release of hazardous substances. Some of the Company's
clients (including private clients, DOE, and DOD) are Potentially Responsible
Parties (PRPs) under CERCLA. Under the Company's contracts with these PRPs,
the Company has the right to seek contribution from these PRPs for liability
imposed on the Company in connection with its work at these clients' CERCLA
sites and generally
9
qualifies for the limitations on liabilities under CERCLA Section 119(a). In
addition, in connection with contracts involving field services at certain of
DOE's weapons facilities, the Company is indemnified under the Price-Anderson
Act, as amended, against liability claims arising out of contractual
activities involving a nuclear incident. Recently, EPA has constricted
significantly the circumstances under which it will indemnify its contractors
against liabilities incurred in connection with CERCLA projects. There are
other proposals both in Congress and at the regulatory agencies to further
restrict indemnification of contractors from third-party claims.
Under Kaiser-Hill's contract with DOE, Kaiser-Hill is not responsible for,
and DOE pays all costs associated with, any liability (including without
limitation, a claim involving strict or absolute liability and any civil fine
or penalty, expense, or remediation cost, but limited to those of a civil
nature), which may be incurred by, imposed on, or asserted against Kaiser-Hill
arising out of any act or failure to act, condition, or exposure which
occurred before Kaiser-Hill assumed responsibility on July 1, 1995 ("pre-
existing conditions"). To the extent the acts or omissions of Kaiser-Hill
constitute willful misconduct, lack of good faith, or failure to exercise
prudent business judgment on the part of Kaiser-Hill's managerial personnel
and cause or add to any liability, expense, or remediation cost resulting from
pre-existing conditions, Kaiser-Hill is responsible, but only for the
incremental liability, expense, or remediation caused by Kaiser-Hill.
The Kaiser-Hill contract further provides that Kaiser-Hill shall be
reimbursed for the reasonable cost of bonds and insurance allocable to the
Rocky Flats contract and for liabilities (and expenses incidental to such
liabilities, including litigation costs) to third parties not compensated by
insurance or otherwise. The exception to this reimbursement provision applies
to liabilities caused by the willful misconduct or lack of good faith of
Kaiser-Hill's managerial personnel or the failure to exercise prudent business
judgment by Kaiser-Hill's managerial personnel.
In connection with its services to its environmental, infrastructure, and
industrial clients, the Company works closely with federal and state
government environmental compliance agencies, and occasionally contests the
conclusions those agencies reach regarding the Company's compliance with
permits and related regulations. To date, the Company never has paid a fine in
a material amount or had material liability imposed on it for pollution or
environmental damage in connection with its services; however, there can be no
assurance that the Company will not have substantial liability imposed on it
for any such damage in the future.
Insurance
The Company has a comprehensive risk management and insurance program that
provides a structured approach to protecting the Company. Included in this
program are coverages for general, automobile, pollution impairment, and
professional liability; for workers' compensation; and for employers and
property liability. The Company believes that the insurance it maintains,
including self-insurance, is in such amounts and protects against such risks
as is customarily maintained by similar businesses operating in comparable
markets. At this time, the Company expects to continue to be able to obtain
general, automobile, and professional liability; workers' compensation; and
employers and property insurance in amounts generally available to firms in
its industry. There can be no assurance that this situation will continue, and
if insurance of these types is not available, it could have a material adverse
effect on the Company.
The Company has pollution insurance coverage on a claims-made basis, in
amounts and on terms that are economically reasonable, against possible
liabilities that may be incurred in connection with its conduct of its
environmental business. An uninsured claim arising out of the Company's
environmental activities, however, if successful and of sufficient magnitude,
could have a material adverse effect on the Company.
Government Regulation
The Company has a substantial number of cost-reimbursement contracts with
the U.S. government, the costs of which are subject to audit by the U.S.
government. As a result of pending audits related to fiscal years 1986
forward, the government has asserted, among other things, that certain costs
claimed as reimbursable under
10
government contracts either were not allowable or not allocated in accordance
with federal procurement regulations. The Company is actively working with the
government to resolve these issues. The Company has provided for its estimate
of the potential effect of issues that have been quantified, including its
estimate of disallowed costs for the periods currently under audit and for
periods not yet audited. Many of the issues, however, have not been quantified
by the government or the Company, and others are qualitative in nature, and
their potential financial impact, if any, is not quantifiable by the
government or the Company at this time. This provision will be reviewed
periodically as discussions with the government progress.
The Company may, from time to time, either individually or in conjunction
with other government contractors operating in similar types of businesses, be
involved in U.S. government investigations for alleged violations of
procurement or other federal laws and regulations. The Company currently is
the subject of a number of U.S. government investigations and is cooperating
with the responsible government agencies involved. No charges presently are
known to have been filed against the Company by these agencies. Management
does not believe that there will be any material adverse effect on the
Company's financial position, results of operations, or cash flows as a result
of these investigations.
Federal agencies that are the Company's regular customers (including DOE,
EPA, and DOD) have formal policies against awarding contracts that would
present actual or potential conflicts of interest with other activities of the
contractor. Because the Company provides a broad range of services in
environmental and related fields for the federal government, state
governments, and private customers, there can be no assurance that government
conflict-of-interest policies will not restrict the Company's ability to
pursue business in the future.
Because some of the Company's consolidated subsidiaries provide the federal
government with nuclear energy and defense-related services, these
subsidiaries and a substantial number of their employees are required to have
and maintain security clearances from the federal government. These
subsidiaries and their employees have been able to obtain these security
clearances in the past, and the Company has no reason to believe that there
would be any problems in this area in the future; however, there can be no
assurance that the required security clearances will be obtained and
maintained in the future. Because of its nuclear energy and defense-related
services, the Company is subject to foreign ownership, control, and influence
(FOCI) regulations imposed by the federal government and designed to prevent
the release of classified information to contractors who are under foreign
control or influence. FOCI issues arise particularly in connection with
foreign ownership of the Company's Common Stock, foreign bank participation in
the Company's credit line, and increased foreign sources of the Company's
gross revenue. The Company has implemented procedures designed to insulate
such subsidiaries from any FOCI that might affect the Company. There can be no
assurance that such measures will prevent FOCI policies from affecting the
ability of the Company's subsidiaries to secure and maintain certain types of
federal government contracts.
Employees
As of March 31, 1999, ICF Kaiser had 4,854 employees, and the Company
believes that its relations with its employees are good. Following the
completion of the EFM sale on April 9, 1999, there were 583 fewer employees.
Of the total remaining employees, 1,763 persons are employed at Kaiser-Hill's
Rocky Flats site in Colorado. A total of 1,357 of the Rocky Flats employees
are represented by the United Steelworkers of America, Local 8031; almost all
of the union employees are contracted out to other companies working at Rocky
Flats. The Company believes that its relations with the union are good.
Item 2. Properties
The Company's operations are conducted in leased facilities or in facilities
provided by the federal government or other clients. The Company's
headquarters is located at 9300 Lee Highway, Fairfax, Virginia 22031-1207, and
its telephone number is (703) 934-3600. The Company's regional headquarters
and other offices are listed on page 2 of this Report. Because the Company's
operations generally do not require the maintenance of unique facilities,
suitable office space is available for lease in all of the geographic areas
currently served. The
11
Company believes that adequate space to conduct its operations will be
available for the foreseeable future. For information concerning an investment
by the Company in the Fairfax, Virginia, land and buildings where the
Company's headquarters are located, see Notes 4 and 9 to the consolidated
financial statements.
Item 3. Legal Proceedings
In the course of the Company's normal business activities, various claims or
charges have been asserted and litigation commenced against the Company
arising from or related to properties, injuries to persons, and breaches of
contract, as well as claims related to acquisitions and dispositions. Claimed
amounts may not bear any reasonable relationship to the merits of the claim or
to a final court award. In the opinion of management, an adequate reserve has
been provided for final judgments, if any, in excess of insurance coverage,
that might be rendered against the Company in such litigation. See Item 1--
"General Information about the Company--Potential Environmental Liability" and
"Government Regulation," Item 7--"Other Items," and Note 13 to the
consolidated financial statements.
Item 4. Submission of Matters to a Vote of Security Holders--None
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
Since September 14, 1993, the Common Stock has traded on the New York Stock
Exchange (NYSE) under the symbol "ICF". At March 31, 1999, there were 1,501
shareholders of record. On March 31, 1999, the closing price of the Common
Stock as reported by the NYSE was $0.75. The following table sets forth, for
the periods indicated, the high and low sales prices for the Common Stock as
reported by the NYSE:
Common Stock Price
-------------------
High Low
--------- ---------
Year Ended December 31, 1997
First Quarter............................................ $ 2.625 $ 1.875
Second Quarter........................................... 2.750 1.875
Third Quarter............................................ 2.875 2.125
Fourth Quarter........................................... 2.813 2.000
Year Ended December 31, 1998
First Quarter............................................ $ 3.000 $ 2.063
Second Quarter........................................... 3.063 2.188
Third Quarter............................................ 2.313 1.125
Fourth Quarter........................................... 1.813 1.188
The Company's Transfer Agent and Registrar is EquiServe, First Chicago Trust
Division (formerly First Chicago Trust Company of New York), P.O. Box 2536,
Jersey City, NJ 07303-2536. The Shareholder Relations telephone number is
(201) 324-0498, and the First Chicago Web site address is http://www.fctc.com.
The Company has never paid cash dividends on its Common Stock. The Board of
Directors anticipates that no cash dividends will be paid on its Common Stock
for the foreseeable future and that the Company's earnings will be retained
for use in the business.
The Board of Directors determines the Company's Common Stock dividend policy
based on the Company's results of operations, payment of dividends on
preferred stock, financial condition, capital requirements, and other
circumstances. The Company's debt agreements currently do not permit dividends
to be paid on its capital stock. See Note 6 to the consolidated financial
statements.
12
Item 6. Selected Financial Data
The selected consolidated financial data of the Company for the years ended
December 31, 1998, 1997, and 1996, the ten months ended December 31, 1995, and
the year ended February 28, 1995, have been derived from the Company's audited
consolidated financial statements. This information should be read in
conjunction with the consolidated financial statements and the related notes
thereto appearing elsewhere in this Report and "Management's Discussion and
Analysis of Financial Condition and Results of Operations." Certain
reclassifications have been made to the prior period financial statements to
conform to the presentation used in the December 31, 1998, financial
statements.
Selected Consolidated Financial Data
(in thousands, except per share data)
Ten
Months Year
Ended Ended
December February
Year Ended December 31, 31, 28,
1998 1997 1996 1995 1995
---------- ---------- ---------- -------- --------
Statement of Operations Data:
Gross revenue............................... $1,210,421 $1,108,116 $1,248,443 $916,744 $861,518
Service revenue(1).......................... 345,462 426,086 532,116 425,896 459,786
Operating income (loss)..................... (78,361) 18,069 21,180 17,505 13,688
Income (loss) before income taxes, minority
interest, and extraordinary item and
cumulative effect of accounting change..... (97,101) 2,561 14,484 6,303 1,239
Net income (loss) before extraordinary item
and cumulative effect of accounting
change..................................... (93,442) (4,987) 5,834 2,252 (1,661)
Basic and Diluted Earnings (Loss) Per Share:
Before extraordinary item and cumulative
effect of accounting change................ $ (3.87) $ (0.22) $ 0.17 $ 0.02 $ (0.18)
Extraordinary item......................... (0.05) -- -- -- --
Cumulative effect of accounting change, net
of tax..................................... (0.25) -- -- -- --
---------- ---------- ---------- -------- --------
Total..................................... $ (4.17) $ (0.22) $ 0.17 $ 0.02 $ (0.18)
========== ========== ========== ======== ========
Weighted average common shares outstanding--
basic...................................... 24,092 22,382 22,035 21,132 20,957
Weighted average common shares outstanding--
diluted.................................... 24,092 22,382 22,057 21,606 20,957
Balance Sheet Data (end of period):
Total assets................................ $ 429,053 $ 399,288 $ 369,462 $370,179 $281,422
Working capital............................. 2,289 91,121 113,898 84,589 91,640
Long-term liabilities....................... 147,152 145,590 161,951 125,818 133,130
Redeemable preferred stock.................. -- -- 19,787 19,617
Shareholders' equity (deficit).............. (63,118) 27,327 34,892 28,427 27,624
- --------
(1) Service revenue is derived by deducting the costs of subcontracted
services and direct project costs from gross revenue and adding the
Company's share of the equity in income of unconsolidated joint ventures
and affiliated companies.
13
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Complications resulting from difficulties in executing several large fixed
price contracts involving the construction of plants to produce nitric acid
(the Nitric Acid Projects) caused the Company to recognize provisions for
total contract cost overruns totaling $66.0 million in 1998. A significant
amount of management's activities in 1998 were focused on responding to the
myriad of ramifications stemming from the substantial loss. As discussed in
the following overview, management has now addressed the predominant issues
related to completing the Nitric Acid Projects and financing the related cost
overruns.
Initially, the Company believed that it would incur cost overruns on only
one of the four Nitric Acid Projects being performed by the Company's
Engineers & Constructors (E&C) Group. Accordingly, as of December 1997, it
reversed all profit previously recognized on that specific project. However,
as time passed and as progress was made toward completion of all of the
contracts, it became apparent that the other contracts would incur sizeable
cost overruns as well. The Company's inability to control effectively many
conditions surrounding the projects--including issues involving subcontractor
productivity, reengineering work, customer demands and changes in project
management--paired with other inherent difficulties in large project cost
estimation processes, resulted in the Company's recording cost overrun charges
of $40.0 million, $7.0 million, and $19.0 million in the second, third, and
fourth quarters of 1998, respectively. On April 15, 1999, the last plant began
initial operations and the other three plants were operating and producing
nitric acid above contract-specific minimums. The Company entered into
settlement arrangements with several of the Nitric Acid Project customers and
subcontractors in order to minimize the remaining uncertainties associated
with these projects and to enable the Company to make a reasonable
determination of completion estimates. The Company will also continue to
pursue claims recoveries against certain subcontractors but has not included
any estimate for recoveries in the total recorded $66.0 million cost overrun.
The Company performed extensive reviews and analyses aimed at identifying
the causes of the Nitric Acid Project problems in an effort to mitigate the
risk of similar problems occurring in the future. Partly as a result of these
reviews, the Company recognized an additional charge totaling $10.2 million to
reflect the adjustment of the earned progress to date on several other large
fixed-price projects as well as to provide for reasonable estimates of
reserves for certain risks associated with those projects.
In anticipation of the cash flow and liquidity issues that likely would
result from the Nitric Acid Project cost overruns and intentions for
restructuring actions, in the latter part of 1998, management began to seek
additional sources of financing. Additionally, in the second half of 1998, the
Board of Directors formed a Special Committee to consider strategic
alternatives for the Company. The Special Committee retained a financial
advisor to assist with the potential sale of a portion(s) of the Company. The
Special Committee and senior management have since been focused on completing
both processes, i.e., securing and preserving the short-term financing and the
simultaneous sale of corporate operating assets.
In December 1998, the Company secured an alternate revolving line of credit,
which provided access to increased working capital. However, continued erosion
on the Nitric Acid Projects, combined with growth in the Company's federal
government business areas, soon pushed the Company to maximum available
borrowing levels. Since December 1998, the Company has had to amend the
revolver, resulting in cash borrowing and letter of credit access up to an
aggregate of $30 million with a requirement to provide $10 million in cash
collateral for existing letters of credit and an accelerated expiration date
of June 30, 1999. Additionally the Company has had to extend the average age
of its vendor obligations and carefully manage all cash disbursement activity.
The payment delays to trade creditors may, at least in the short term, have a
negative impact upon the Company's current and future ability to generate and
secure business opportunities.
Also in December 1998, the Company received proposals for the purchase of
several of its major operating activities. After reviewing recommendations
from its financial advisor, the Board of Directors instructed management to
enter into negotiations for the sale of the majority of the assets associated
with two of its operating groups.
14
On March 9, 1999, the Company entered into a definitive asset purchase
agreement (the EFM Agreement) with The IT Group, Inc. (IT) for the sale of the
Company's Environment and Facilities Management Group (EFM). Pursuant to the
terms of the EFM Agreement, on April 9, 1999, the Company sold the majority of
the active contracts and investments, and transferred a substantial number of
employees to IT for a purchase price of $82 million, less $8 million to be
retained by IT for EFM's working capital requirements. IT also acquired the
Company's interest in various operating leases for equipment and facilities
used by EFM. The Company retained its 50% ownership in Kaiser-Hill.
In March 1999, the Company also announced its intentions to sell its
Consulting Group. On March 8, 1999, a non-binding letter of intent was signed
with CM Equity Partners, L.P. (CMEP), an equity investment firm based in New
York City, and the Group's management for the sale of the majority of the
assets associated with the Consulting Group for $75 million, which is
currently expected to be completed by mid-year 1999.
The cash proceeds from the completed sale of EFM and the pending Consulting
Group sale, net of income taxes and transaction costs, and from the
liquidation of the remaining EFM assets will be used to pay down the cash
borrowings on the Company's revolving line of credit and contribute to
resolving existing liquidity constraints. The Company also will continue to
pursue the realignment of its capital structure, the continued reductions of
its cost structure, and the increased focus on risk mitigation and effective
resource allocation, all of which are aimed at improving the profitability of
the Company's remaining operations. The Company is committed to implementing
proper management controls and the processes necessary to deliver high-
quality, profitable projects throughout its operations. A plan that management
began implementing late in 1998 provides for the discontinuance of
unprofitable market areas, the realignment of staff within the Company to meet
current needs, and the reduction of significant overhead costs in light of the
divestitures of two of its operating groups. At the inception of the plan's
execution in 1998, the Company recognized a $7.7 million charge for the costs
of office realignment and discontinuing operations in certain markets and a
$9.4 million charge for severance and other restructuring costs. Management
expects to complete execution of the plan by June 30, 1999.
Despite the severe financing constraints experienced by the Company, the
Company has continued to secure new projects, including several major
contracts. Significant examples include:
. the third quarter EFM award of a five-year, $1.1 billion contract to a
new joint venture among Northrop Grumman, Wackenhut Corporation, and the
Company to manage base operations for NASA and the U.S. Air Force at
Kennedy Space Center, Cape Canaveral Air Station, and several other Air
Force bases
. E&C's award of the $44.0 million follow-on operations and maintenance
contract to the Boston Harbor Wastewater Treatment construction project
that it performed over the last 11 years.
. EFM's award of a $9.7 million contract by the Indiana Department of
Environment for decontamination and demolition at the former Continental
Steel Superfund Site in Kokomo, Indiana.
. E&C's award of the $25.0 million Walnut Hill Water Treatment contract to
provide construction management services for the construction of the
largest water-treatment facility in New England to be located in
Marlborough, Massachusetts.
The Company ended 1998 with $3.2 billion in contract backlog. The backlog of
the EFM and Consulting Groups totaled $658 million and $540 million,
respectively, at December 31, 1998. The Company expects to work off 42% of the
$2 billion backlog. The reduction from $4.1 billion at December 31, 1997 is
due primarily to the completion of another year of the Kaiser-Hill Rocky Flats
contract, resulting in the conversion of approximately $632.6 million of the
1997 backlog into revenue in 1998. Exclusive of the Rocky Flats backlog at
December 31, 1998, the Company's backlog decreased by 5.6% from December 31,
1997.
Results of Operations
The following discussion describes the Company's results of operations for
the years ended December 31, 1998, 1997, and 1996. Due to the magnitude of the
effect of many of the nonrecurring adjustments and transactions described
above, many of the analyses that follow have been adjusted to focus on the
Company's core operations.
15
Gross Revenue(1)(2)
The Company's gross revenue by operating group for each of the years ended
December 31 are as follows (in millions):
1998 1997 1996
-------- -------- --------
Kaiser-Hill....................................... $ 632.6 $ 588.7 $ 544.0
Engineering and Construction (E&C)................ 374.1 337.8 266.8
Environment and Facilities Management (EFM)....... 105.3 88.1 355.6
Consulting Group.................................. 105.4 93.1 86.9
Eliminations...................................... (7.0) (0.4) (4.9)
-------- -------- --------
Total........................................... $1,210.4 $1,108.1 $1,248.4
======== ======== ========
- --------
(1) Gross revenue represents services provided to customers with whom the
Company has a primary contractual relationship. Included in gross revenue
are costs of certain services subcontracted to third parties and other
reimbursable direct project costs such as materials procured by the
Company on behalf of its customers.
(2) Certain reclassifications have been made to the prior period information
to conform to the current period presentation.
Kaiser-Hill
Kaiser-Hill is a 50% owned joint venture between ICF Kaiser International,
Inc. and CH2M Hill formed solely to perform the U.S. Department of Energy's
Rocky Flats Closure Project awarded in late 1995. The contract is cost-plus
incentive fee in nature, accordingly, the changes in gross revenue earned by
Kaiser-Hill during the comparable periods are largely reflective of increased
levels of reimburseable subcontractor costs being incurred as the contract
progress continues.
Environment and Facilities Management Group (EFM)
The EFM Group derived revenues primarily from large environmental and
facilities management projects with federal government and commercial
customers. Fluctuations in the historic annual results above are attributable
to:
. an increase in 1998 gross revenue of $18.3 million and $43.1 million
compared to 1997 and 1996, respectively, predominantly from large
environmental restoration contracts for the Baltimore and Sacramento
districts of the U.S. Army Corps of Engineers, and
. the termination in September 1996 of the Company's then largest contract,
the Hanford contract, which generated $293.4 million in gross revenue
that year.
Engineers & Constructors Group (E&C)
The E&C Group provides design engineering, procurement, and construction
services to domestic and international clients in the industrial, water,
transportation and transit, and infrastructure markets. Fluctuations in the
historic annual results above are attributable to:
. the acquisition on March 19, 1998, of ICT Spectrum Constructors, Inc., a
construction contractor, based in Boise, Idaho, specializing in
construction management of fabrication plants and other facilities for
semiconductor and microelectronics customers resulting in $87.2 million
in gross revenue from January 1, 1998.
16
. a reduction of $22.5 million of revenue recognized in 1998 compared to
1997 from the Nitric Acid Projects, partially reflective of the
decreasing volume of activity on the projects as they neared completion
and partially of the reversal of revenue as a result of changes in
estimates of contract losses at completion and an increase of $39.8
million in 1998 over 1996 earnings, reflective of the start-up phase of
several of those projects in late 1996.
. a reduction of $4.3 million in 1998 revenue compared to 1997 generated by
the Company's Australia, and Asian activities. The decline was largely
due to the winding down of certain large projects and due to the negative
impacts of foreign currency volatility in the region, both during the
third quarter of 1998. The effects of these decreases in gross revenue on
operating income, however, were offset in 1998 and 1997 as a major new
joint venture project was secured and began operating in late 1997, the
equity results of which are reflected as a component of the Company's
service revenue and not as gross revenue.
. a decrease of $14.5 million in revenue in 1998 compared to 1997 resulting
from the 1997 completion of contracts for a major U.S. industrial client.
. total gross revenue of $77.8 million, $76.7 million and $27.2 million
generated by the Nova Hut steel mini-mill contract in the Czech Republic
in 1998, 1997 and 1996, respectively. The increases reflect the
contract's inception in 1996 and the ensuing advancement in 1997 and 1998
to stages of the project involving the procurement of significant amounts
of subcontracted labor and direct materials. Currently contracted
portions of this project are expected to be completed during late 1999.
. a decrease of $4.0 million was also experienced in 1998 versus 1997 on
the Boston Harbor project which progressed toward completion of the more
construction-laden phases and into the operations and maintenance phases.
Consulting Group
The Consulting Group provides energy, information technology, environmental,
economic, and community development consulting services to governmental and
commercial clients. The Consulting Group completed 1998 with the highest gross
revenue, $105.4 million, and the largest work force, now totaling nearly 750
employees, in its history. The Group's headcount and labor base both grew by
18% during 1998 compared to 1997 and by 13% in 1997 compared to 1996 in
response to growth experienced in contract awards. Historically, revenue from
the U.S. Environmental Protection Agency (the EPA) represented a majority of
the Group's total business. In 1998 and 1997, the percentage of the Group's
revenues derived from the EPA represented 45.5% and 49.0% of total Consulting
Group revenue, respectively, yet increased by $1.3 million in absolute terms
in 1998 over 1997.
17
Service Revenue(1)
The Company's service revenue by operating group for each of the three years
ended December 31 is as follows (in millions):
1998 1997
1998 (2) 1997 (2) Change 1996 (2) Change
------ --- ------ --- ------ ------ --- ------
Kaiser-Hill............. $154.5 24% $167.5 28% (8)% $168.0 31% 0%
Environment and
Facilities Management
(EFM).................. 52.0 49% 53.8 61% (3)% 155.4 44% (65)%
Engineering and
Construction (E&C)..... 55.0 15% 131.8 39% (58)% 138.2 52% (5)%
Consulting.............. 81.7 77% 71.3 77% 15 % 68.4 79% 5 %
Equity in income of
joint ventures and
affiliated companies... 6.0 -- 2.3 -- 161% 4.0 -- (43)%
Eliminations............ (3.7) -- (0.6) -- -- (1.9) -- --
------ ------ ------
$345.5 29% $426.1 38% (19)% $532.1 43% (20)%
====== ====== ======
Adjusted for all effects
of the Nitric Acid
projects............... $412.6 35% $420.7 40% (2)% $530.5 43% (21)%
====== ====== ======
Adjusted for the effects
of acquisitions and the
Nitric Acid projects... $402.9 37% $420.7 40% (4)% $530.5 43% (21)%
====== ====== ======
- --------
(1) Service revenue is derived by deducting the costs of subcontracted
services and materials from gross revenue and adding the Company's share
of the equity in income of unconsolidated joint ventures and affiliated
companies.
(2) This column reflects each operating group's service revenue as a
percentage of its gross revenue.
Service revenue decreased by $80.6 million during 1998 compared to 1997. The
majority of the decrease was due to the $76.2 million loss reserve established
primarily in E&C to cover estimated cost overruns on the Nitric Acid Projects
and also for revised profit margin estimates at completion on other large
fixed price projects. Although management believes that adequate provision for
loss reserves and profit estimates for these fixed-price contracts has been
reflected in these results, no assurance can be given that there will be no
additional future adjustments.
Service revenue from the Rocky Flats contract decreased by $13.0 million
during 1998 compared to 1997. This decrease is attributable to Kaiser-Hill's
continuing strategy to subcontract more of the overall contract tasks and to
emphasize its primary role as the overall services integrator on the Rocky
Flats contract. Because the contract primarily reimburses Kaiser-Hill for its
actual costs incurred plus an incentive fee on performance-based completion
milestones, the shift from direct labor to subcontracted costs has no impact
to Kaiser-Hill's actual profitability. As with all contracts involving
incentive-based fee arrangements, the Company estimates the amount of fees it
believes it will earn and recognizes revenue equal to the estimated fee
percentage multiplied by the related base of costs. During the third quarter
of 1998, the Company determined that Kaiser-Hill was not going to earn the
same amount of fees as in 1997, and accordingly adjusted the fee revenue on a
cumulative basis down to the revised estimate.
Decline in service revenue of $9.6 million from the Nova Hut contract
compared to 1997 is as a result of progression into a phase of the contract
that is subcontractor-intensive and as a result, the Company recognized a $5.7
million negative adjustment in the third quarter of 1998. The revenue
adjustment was necessary to reflect earned progress resulting from the loss of
a change order modification which was previously considered highly probable of
being attained.
The service revenue decreases discussed above were somewhat offset by $9.7
million of service revenue generated by the 1998 acquisition of ICF Kaiser
Advanced Technology. Increases for both periods in service revenue from the
Consulting Group paralleled the increases in, and remained a relatively
consistent percentage of, that group's gross revenue.
18
Equity in income from joint ventures and affiliated companies increased by
$3.7 million in 1998 compared to 1997 due primarily to a joint venture
contract awarded in late 1997 for an alumina refinery expansion project in
Australia. The sale in 1996 of the Company's interest in a pulverized coal
injection operation accounted for the 1997 decline in joint venture equity
from 1996 of $1.7 million.
Service revenue as a percentage of gross revenue, adjusted for the effects
of the Nitric Acid Projects and acquisitions, decreased to 37% for 1998
compared to 40% for 1997 and 43% for 1996. Kaiser-Hill's service revenue
percentage to gross revenue decreased to 24% for 1998 compared to 29% and 31%
for 1997 and 1996, respectively. Adjusting service revenue further to exclude
the effects of Kaiser-Hill, the percentage to gross revenue increased to 66%
for 1998 compared to 63% and 53% for 1997 and 1996, respectively. This
increase is largely driven by a migration in the mix of the Company's E&C
contracts which are less construction intensive and more professional services
oriented compared to recent history.
Operating Expenses
The Company's operating expenses as a percentage of service revenue by
operating group for each of the years ended December 31 are as follows (in
millions):
1998 1997 1996
---- ---- ----
Service Revenue(1)............................................ 100% 100% 100%
Operating Expenses
Direct labor and fringe benefits............................ 68% 68% 71%
Group overhead(2)........................................... 22% 21% 18%
Corporate general and administrative (3).................... 6% 5% 5%
Depreciation and amortization............................... 2% 2% 2%
--- --- ---
Operating Income(4)........................................... 2% 4% 4%
=== === ===
- --------
(1) Service revenue has been adjusted to exclude all of the effects of the
Nitric Acid Projects.
(2) Group overhead represents those general and administrative costs incurred
by the Company's operating groups for which an indirect benefit is
generally not derived by any other operating group.
(3) Corporate general and administrative expenses consist of costs incurred by
the Company which provide some indirect benefit to all operating groups.
(4) Operating Income as presented here excludes the effects of the severance
and restructuring and unusual charges recorded during 1998.
The acquisition of ICF Kaiser Advanced Technology in 1998 added direct labor
and fringe benefits expense of $5.8 million. Apart from acquired direct labor,
other direct labor spending decreased by $12.8 million, or 4%, in 1998
compared to 1997, resulting in total direct labor and fringe benefit expense
during 1998 of to $106.7 million. This reduction is due primarily to decreases
in Kaiser-Hill's direct labor of $8.0 million and $16.8 compared to 1997 and
1996, respectively. These reductions reflect Kaiser-Hill's migration to using
more subcontractors to execute work on the Rocky Flats contract. Another
$102.1 million of the 1998 decrease in direct labor from 1996 was due to the
loss of EFM's Hanford contract, which terminated in September, 1996.
Adjusting to exclude the Rocky Flats and the Hanford contracts, the
Company's direct labor and fringe benefit costs as a percentage of service
revenue were 76.0%, 56.0%, and 50.0% for the fiscal periods ended December 31,
1998, 1997, and 1996 respectively.
General and administrative, or indirect, expenses are incurred within each
of the operating groups and at the corporate level. Total group overhead
represents those general and administrative costs incurred by the Company's
operating groups for which an indirect benefit is generally not derived by or
allocated to any other
19
operating group. Conversely, corporate general and administrative costs are
not allocated to group results and consist of expenses incurred by the Company
which provide some indirect benefit to all operating groups.
Group overhead expenses increased by $5.4 million, or 6.0%, during 1998
compared to 1997. The 1998 group overhead increase reflects the inclusion of
$3.0 million in general and administrative costs incurred by ICF Kaiser
Advanced Technology during 1998, a $0.7 million charge in the first quarter of
1998 to establish reserves for contingencies; and lastly, a combination of
other increases in expenses related to marketing, administration, and
unbillable technical labor, which were not incurred at similar levels during
the same periods in 1997. Group overhead decreased by $9.0 million, or 9.4%,
in 1997 compared to 1996 as a result of the Company's cost-reduction
initiatives undertaken in late 1996 and 1997. Significant reductions were
realized in indirect salaries, facilities expenses, consultants' costs, and
amortization expense.
Corporate general and administrative expense increased by $0.9 million, or
4.0%, in 1998 versus 1997. The positive effects of reductions in corporate
general and administrative costs were more than offset by administrative cost
increases undertaken for matters that are non-recurring in nature.
Specifically, numerous activities were undertaken by management and the Board
of Directors in 1998 as a precursor to realigning the Company's unprofitable
operations.
Management believes it can significantly reduce the Company's current annual
overhead and general and administrative cost structures and began execution
late in 1998 of its cost reduction plan. Also in 1998 the Company recognized a
$7.7 million charge for the costs of office realignment and discontinuing
operations in certain markets and a $9.4 million charge for severance and
other restructuring costs and has presented the charges individually on the
Consolidated Statements of Operations.
Gain on Sale of Investment
In December 1996, the Company sold the majority of its investment in a
pulverized coal injection operation for $16.6 million, resulting in a $9.4
million pretax gain. The buyer exercised an option on January 5, 1998, to
purchase the remaining investment for $2.4 million. The Company recognized a
total pretax gain on the option of $1.0 million during 1997 as the carrying
value of the option was increased to reflect its then current fair market
value. The Company's investment in this operation generated $0.8 million and
$2.8 million in equity income in 1997 and 1996, respectively.
Interest Expense
The Company's average annual outstanding debt and the related average
effective interest rates for 1998, 1997, and 1996 were $151.7 million and
13.3%, $140.8 million and 13.0%, and $131.0 million and 13.2%, respectively.
Interest expense increased by $2.0 million in 1998 compared to 1997,
primarily as a result of additional borrowings to fund the Nitric Acid
Projects overruns. Interest expense increased $0.9 million in 1997 from 1996,
a $1.8 million increase of which was the result of the Company's late 1996
issuance of $15 million in 12% Senior Notes due in 2003. The proceeds from
these Senior Notes were used primarily to redeem preferred stock, which
carried an annual dividend requirement of $1.95 million. The 1997 increase was
then offset partially by a one-time, $0.9 million reduction in interest
expense realized from the Company's favorable resolution and reversal of a
previously established liability for potential interest costs associated with
a foreign income tax matter.
Interest income is earned on available cash balances generated primarily by
Kaiser-Hill and foreign operations. All other cash flows not required for
operations are used to pay down outstanding cash borrowings.
Income Tax Expense
The income tax provision for all periods presented excludes the minority's
interest in Kaiser-Hill's operating income because it is owned partially by
another company and is a flow-through entity for income tax purposes.
20
In 1998, the Company recognized a tax benefit of $11.4 million on a loss
before taxes of $97.1 million. This loss can be used as a future tax benefit
totaling $35.1 million; however, due to uncertainty over the ability to
realize the entire amount, the Company provided a valuation allowance of $22.4
million against the future benefit. However, management believes that future
earnings, including anticipated gains from the sale of portions of the
Company's operating assets, will generate sufficient taxable income within the
next year to realize the entire net $34.7 million deferred tax asset currently
reflected on the balance sheet, in addition to the $22.4 million of benefit
currently included in the valuation allowance.
Other 1998 changes in income tax expense versus 1997 include a $1.8 million
foreign income tax expense established for the anticipated repatriation to the
U.S. of Australian earnings, used for domestic working capital needs, and a
$0.7 million provision for the permanent book-tax difference expected for the
redemption of $1.8 million in non-recourse loans to officers and former
employees, which were collateralized solely by shares of the Company's common
stock. At the inception of the loans, the collateral value exceeded the loans'
face value.
In 1997, the Company recognized a tax benefit of $3.3 million on pre-tax
income of $2.6 million primarily as a result of completing a study of historic
research and experimental expenditures for certain open tax years, enabling
the Company to recognize a benefit for research tax credits of $1.9 million.
Extraordinary Item
In December 1998, initial proceeds totaling $25.0 million from the new
revolver were used to repay all outstanding amounts from the former revolving
credit facility. Accordingly, the Company wrote off the unamortized balance of
the capitalized costs related to the original issue of the debt and recognized
an extraordinary charge of $1.1 million. The Company did not recognize any
income tax benefit associated with this charge
Cumulative Effect of Accounting Change
In April 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued a Statement of Position 98-5
Reporting on the Costs of Start-Up Activities (SOP 98-5). The SOP requires
costs of organization and start-up activities to be expensed as incurred. The
Company elected early adoption of the Statement effective April 1, 1998 and,
at that time, reported the cumulative effect of the change as a one-time, non-
cash charge of $6.0 million after tax, or $0.25 per share. The Company's
amortization expense in 1998 was reduced by $1.6 million because the
cumulative charge included balances for items that were previously amortizing.
Liquidity and Capital Resources
Operating activities: As of December 31, 1998, the Company had funded
approximately $40 million of the total estimated $66 million Nitric Acid
Project cost overruns. This use of cash was in part offset by the effects on
cash balances of increasing the average age of vendor payables, resulting in a
total net operating use of cash of $29.4 million in 1998.
The Company generated significant cash flows from operations during 1997,
due in part to increased activity in large commercial projects that had
provisions in the contract terms for milestone-based payments which were
collected prior to contract performance. Differences in the timing of the cash
payments made to suppliers on some of these large projects versus the
collection of customer trade receivables also contributed favorably to the
1997 operating cash flows. Cash flows generated from operations in 1996 were
impacted favorably by similar timing differences and impacted negatively by
the Company's timing of supplier payments made related to the termination of
the Hanford contract in late 1996.
21
Investing activities: Proceeds totaling $2.4 million and $16.5 million from
the December 31, 1996 installment sale of the Company's ownership interest in
a pulverized coal injection operation were collected in 1998 and 1997,
respectively. Investments, including capitalized labor, were made in 1998 and
1997 totaling $4.5 million and $4.9 million, respectively, for capital
purchases. Such investment levels remained relatively consistent with that of
recent history and included the implementation costs of new accounting and
project management software, which began in 1995 and will continue in various
phases throughout 1999. In light of the planned completion of the software
project in 1999, which is a critical factor in the Company's Year-2000
readiness plan, and of the sale of two of its operating groups, the Company
anticipates reductions in future requirements for purchased capital
expenditures.
With the intent significantly restructuring fixed operating leases for the
Company's corporate headquarters, the Company paid $1.5 million on November
12, 1997, for a 40% ownership interest in a limited liability company (the
LLC) that leases the land and owns the buildings leased primarily by the
Company for its corporate headquarters. The Company is committed to make
additional annual capital contributions to the L.L.C. totaling $600,000
annually during each of the first three years and $700,000 annually during
each of the fourth through ninth years of the LLC. The ownership in the LLC
will increase to 16% in fixed annual 2.4% increments in each of the eleventh
through fifteenth years of the agreement. Transaction costs totaling $1.7
million were capitalized and will be amortized over the estimated 15-year life
of the LLC.
Financing activities: In 1998, the Company realized that it was going to
incur significant cost overruns on the Nitric Acid Projects. Due to the
significant risks, difficulties and uncertainties involved in estimating the
total costs to complete these large fixed price projects, the Company
increased the total completed project cost estimates several times in 1998.
Given the completion cost uncertainties and the inability to finitely
determine the impact of the losses on the Company's liquidity and financing
sources, management immediately pursued options for additional financing
sources and flexibilities. In addition to seeking a replacement working
capital facility, the Company's Board of Directors also began considering and
pursuing other strategic alternatives, including, but not limited to, the sale
of portions of the Company.
As a result of the activities, the Company successfully entered into a new
revolving credit facility (the Revolver) on December 18, 1998 which offered
additional flexibility and access to additional cash borrowings compared to
the predecessor revolving facility. The new Revolver provides for cash
borrowings and letters of credit up to an aggregate of $60 million. The total
available credit is based on a percentage of the Company's eligible billed and
unbilled accounts receivable, up to the $60 million maximum. The Company and
certain of its subsidiaries, which are guarantors of the Revolver, have
granted a security interest in certain accounts receivable and other assets
and pledged their respective stock to the lenders. The Revolver limits the
payment of cash dividends on common stock, prohibits the issuance of certain
types of additional indebtedness, limits certain investments and acquisitions,
limits the amount of outstanding letters of credit to $35 million, prohibits
the sale of certain assets, and requires the maintenance of specified
financial ratios.
The Revolver contains provisions for prime interest rate borrowings with
margins dependent upon the Company's financial operating results, and expires
on December 31, 2000. As of December 31, 1998, the Company had $30.7 million
in cash borrowings and $26.7 million in letters of credit outstanding under
the Revolver. The letters of credit outstanding under the Revolver are in
support of contract performance guarantees, primarily on international
projects. The weighted average interest rate incurred on revolver borrowings
for 1998 and 1997 was 8.9% and 8.5%, respectively. As of December 31, 1998,
the Company had $2.6 million of additional credit available from the Revolver.
Soon after obtaining the Revolver, the Company again increased the estimate
of the total Nitric Acid Projects cost overruns by an additional $19 million.
This material adverse change to the Company's financial condition triggered a
technical event of default pursuant to the Revolver's terms. Apart from the
financial effects of this latest increased estimate of the Nitric Acid Project
overruns, the Company was in compliance with all other of the Revolver's
restrictive financial covenants at December 31, 1998. Subsequent to the event
of default, the lender has permitted the Company to borrow and obtain letters
of credit pursuant to all other terms of the
22
Revolver, primarily conditioned on the Revolver provision that proceeds from
asset sales be used to repay outstanding cash borrowings. That provision
combined with the fact that the Company was actively pursuing the sale of
significant operating assets was sufficient assurance for the lenders to
continue to permit the use of the facility until such time as an asset sale
was completed. On April 9, 1999, the Company completed the sale of its EFM
Group (see Note 3 to the Consolidated Financial Statements) and used $36
million of the sale proceeds to extinguish outstanding Revolver cash
borrowings. The Company has also received an amendment to the Revolver (the
Amended Revolver) providing for cash borrowing and letters of credit up to an
aggregate of $30 million. The Amended Revolver will expire on June 30, 1999
and will also require the Company to provide $10.0 million in cash collateral
for existing letters of credit.
The distributions of Kaiser-Hill earnings to the minority interest owner in
1998, 1997, and 1996 totaled $10.3 million, $13.9 million, and $2.4 million,
respectively. Kaiser-Hill currently has a $50 million receivables purchase
facility to support its working capital requirements. The receivables purchase
facility contains certain program fees, specified minimum tangible net worth
requirements, and default provisions for delinquent receivables. The
receivables purchase facility expires on June 30, 1999, and is non-recourse to
Kaiser-Hill's owners. The Company anticipates being able to renegotiate the
purchase facility in annual increments beyond the 1999 expiration.
Liquidity and Capital Resource Outlook
Management believes that the cash proceeds from the completed EFM sale and
the pending Consulting Group sale will yield sufficient short-term liquidity
to bridge the Company's financing needs until such time as the Company can
secure other longer-term alternatives. Specifically, the cash proceeds from
divestitures will be used to retire outstanding cash borrowings from the
revolving credit facility, provide required collateral for contract
performasnce guarantees, pay overdue vendor obligations and contribute to
supporting the future realigned working capital requirements and capital
expenditures of the Company's remaining operations including required interest
obligations of the Series B Senior and the Senior Subordinated Notes.
Subsequent to the sale of the EFM and Consulting Groups, however, as well as
between the closing dates of the sales, the Company's remaining E&C operations
will require access to a revolving credit line containing provisions for
access to letters of credit typically required to support certain contract
performance obligations. The Company has obtained an amended, $30 million,
revolver (the Amended Revolver) from its current lenders through June 30,
1999. The terms of the Amended Revolver include similar restrictive financial
covenants as the Revolver and in addition required the Company to
collateralize $10.0 million of its total contract performance guarantees which
are currently addressed by noncollateralized letters of credit. In the event
that access to a replacement revolving line cannot be secured by June 30,
1999, the Company will have to use available cash, generated largely from
asset sales: to collateralize its contract performance guarantees.
In the event the Consulting Group sale is not consummated, the Company
believes the cash flows from ongoing operations of the Consulting Group,
Kaiser-Hill, and the E&C Group would most likely generate sufficient
collateral, in the form of current trade accounts receivable, to adequately
support a borrowing base to secure the size of revolving credit line needed to
fund short-term borrowing needs of the Company's remaining operations, as well
as the letter-of-credit capacity needed primarily by the E&C Group. A factor
critical, however, to the Company's success in securing a sufficient and
affordable working capital facility in the near term, in all of the above
scenarios, is its ability to remove sufficient overhead costs from remaining
operations and demonstrate improved operating results. Although management
believes it will be able to accomplish these milestones, there can be no
assurance that it will be able to do so.
Regardless of the outcome of the pending Consulting Group sale, over the
long term the Company will need to realign its capital structure. Assuming the
sale of the Consulting Group is completed, the net proceeds may be used to
reinvest in the Company's business, pay down debt on the Amended Revolver or
offer to purchase the Company's outstanding Notes. The Company is considering
alternatives for the use of the net proceeds of the Consulting group sale and
the realignment of its capital structure. These alternatives will include
means by which the Company's outstanding debt may be reduced to levels that
can be supported by cash flows of the remaining operations.
23
The Company will continue to explore options that would provide additional
capital for longer-term objectives and operating needs, including the
possibility for divestiture of additional operating assets, replacements for
the Company's long-term debt, and additional equity infusions.
Other Matters
Bath Contingency: In March 1998, the Company entered into a $187 million
maximum price contract to construct a ship building facility. In May 1998, the
Company subsequently learned that estimated costs to perform the contract as
reflected in actual proposed subcontracts were approximately $30 million
higher than the cost estimates originally used as the basis for contract
negotiation between the Company and the customer. After learning this, the
Company advised the customer that it was not required to perform the contract
in accordance with its terms as a result of a mutual mistake among them in
negotiating that contract. In October 1998, the customer presented an initial
draft of a claim against the Company requesting payment for estimated damages
and entitlements pursuant to the terminated contract. The Company and the
customer are currently discussing the customer's draft claim. No provision for
loss for this matter has been included in the Company's financial results to
date as management does not believe that it has sufficient information at this
time to reasonably estimate the outcome of the negotiations.
Acquisition Contingency: The ICF Kaiser common shares exchanged for the
stock of ICT Spectrum in the March, 1998 acquisition, carry the guarantee that
the fair market value of each share of stock will reach $5.36 by March 1,
2001. In the event that the fair market value does not attain the guaranteed
level, the Company is obligated to make up the shortfall either through the
payment of cash or by issuing additional shares of common stock with a total
value equal to the shortfall, depending upon the Company's preference.
Pursuant to the terms of the Agreement, however, the total number of
contingently issuable shares of common stock cannot exceed an additional 1.5
million. Given that the quoted fair market value of the stock at December 31,
1998 was $1.44 per share, and that the Company's current debt instruments
restrict the amount of cash that can be used for acquisitions, the assumed
issuance of an additional 1.5 million shares would not completely extinguish
the purchase price contingency. The Company therefore would be required to
obtain an amendment to current debt instruments or replace them in order to
complete a cash fill-up. Any future distribution of cash or common stock would
be recorded as a charge to the Company's paid-in-capital.
Until the earlier of the contingent purchase price resolution or March 1,
2001, any additional shares assumed to be issued because of shortfalls in fair
market value will be included in the Company's diluted earnings per share
calculations, unless they are antidilutive. The exchanged shares also contain
restrictions preventing their sale prior to March 1, 2001.
On March 29, 1999, one ex-ICT Spectrum shareholder, individually and on
behalf of all others similarly situated, filed a class action lawsuit alleging
false and misleading statements made in a private offering memorandum, and
otherwise, in connection with the Company's acquisition of ICT Spectrum in
1998.
Year-2000 Readiness: Similar to many organizations that use computer
programs in their operations, the Company is addressing the impact of the
Year-2000 issue on its business. The Year-2000 issue is the result of computer
programs that were written using two digits rather than four to identify the
year in a date field. Although it is possible that certain programs could
function if left uncorrected, there is a significant risk that computer
programs will recognize any two digit date containing "00" to be referring to
the year 1900 rather than the year 2000. This could result in system failures
and miscalculations causing disruptions to regular operations.
The Company has developed and implemented a plan to achieve Year-2000
readiness. The Year-2000 program, led and coordinated at the corporate level,
consists of senior management from all Company disciplines, and is being
executed and implemented by teams in each of the Company's operating groups
throughout the world. The Company has identified the following five areas in
which Year-2000 readiness and/or risk assessment are critical operations:
24
(1) software applications used by management to run and monitor the
business ("Internal Systems");
(2) the hardware and related software used internally to run the core
business--such as desk-top hardware and software applications,
communications networks, and systems used in the operation of office
facilities ("Hardware, Network, and Facilities Systems");
(3) software that the Company has either purchased, designed, developed,
written, or interfaced, and sold to customers ("Customer Systems");
(4) software used by the Company's significant vendors or subcontractors
that could disrupt the flow of the Company's activities in the event that
the system malfunctions ("Vendor Systems"); and
(5) systems critical to the operations of Kaiser-Hill ("Kaiser-Hill
Systems").
Within each category, the Company has identified and assigned criticality
priorities to the various systems. Levels of system criticality were defined
as those that might have a significant adverse effect to the Company in any of
the areas of safety, environmental, legal, financial, and service-delivery
capabilities.
Internal Systems: Management's ongoing assessment of the majority of its
Internal Systems began in 1995 and 1996 with the replacement of its main-frame
based financial and project management software systems with new client-server
applications. The phased conversion to the new systems began in 1996 and will
be completed by September 1999. The costs of the new software, external
consultants, and the internal cost of implementation labor is being
capitalized and amortized over a period of five years. This investment in the
new software applications was $1.7 million, $0.9 million, and $2.6 million in
1998, 1997, and 1996, respectively. Depreciation expense related to these
investments totaled $1.2 million, $0.9 million and $0.6 million in 1998, 1997,
and 1996, respectively. The total remaining costs, excluding internal labor,
of this aspect of the Year-2000 project, including nonrecurring costs
associated with the historical archival of main-frame-based computer data, is
estimated to be less than $1.0 million.
Hardware, Network and Facilities Systems: The Company has completed the
inventory and assessment of these systems and is currently in the replacement
mode. Estimated costs of $0.2 million will be incurred to replace these
critical systems, primarily including the replacement of embedded technology
in items such as telephone switches. The Company will most likely finance the
majority of this obligation through operating leases just as it does for the
majority of its annual ongoing needs for technology updates for desk-top
hardware and software. Accordingly, the charges will be expensed as the lease
financing is paid.
Customer Systems: The Company also is assessing the risk surrounding Year-
2000 readiness in its customer systems, i.e. risk that may have been created
through the Company's contracts for services in which the Company's
professionals wrote and delivered software source code, or procured third
party software for modification and/or resale to customers. Based on the
service orientations of the Company's business, which historically did not
make wide use of computer software applications, management does not
anticipate significant contract exposures emanating from the improper
functioning of delivered source code that would still be covered under
nonexpired contract warranty provisions. There can be no assurances that the
Company's customers would be unable to seek such compensation even if the
contracts do not provide for it.
Vendor Systems: The Company is also corresponding with all vendors and
subcontractors related to the Vendor Systems that have been identified through
reasonable risk assessment techniques as critical to the Company's operations
regarding their Year-2000 readiness. Compliance assessment in this area will
be ongoing throughout 1999. The Company will devise contingency plans in the
event it believes significant risk to a disruption of service to the Company
is not being adequately mitigated. Currently, management does not anticipate
the need for contingency plans. Of course, the ability of parties to be
compensated for monetary or other damages resulting from Year-2000 readiness
risks is unknown.
Kaiser-Hill Systems: Kaiser-Hill also has a Year-2000 readiness program,
separate from that of the Company. The United States Department of Energy
(DOE) owns all property and equipment at the Rocky Flats Environmental
Technology Site near Denver, Colorado. While DOE bears the Year-2000 risk at
Rocky Flats,
25
Kaiser-Hill manages and uses the DOE property in its execution of the site
closure contract. One work element of the Rocky Flats contract requires that
Kaiser-Hill plan and execute DOE's Year-2000 readiness activities at the site.
Costs incurred by Kaiser-Hill in the execution of the readiness activities are
fully reimbursed by the DOE. Additionally, Kaiser-Hill is eligible for
performance award fees for attaining certain plan performance milestones, and
is succeptible to penalties in the event certain plan milestones are not
attained. Total contract expenses incurred by Kaiser-Hill for these Year-2000
activities totaled approximately $17.0 million through 1998. Successful
progress on the plan execution to date has resulted in Kaiser-Hill being
awarded $0.5 million in performance award fees through March 31, 1999, as well
as attaining reductions to the total amount of potential penalties, limiting
the remaining potential penalty exposure to $0.5 million.
Although there can be no guarantee of complete readiness by the beginning of
the year 2000, the Company believes each of the business areas described above
will be Year-2000 ready or be substantially ready by November 1999 such that
further remediation and testing, if any, will not be significant. In the event
the Company does not complete its program, or fails to properly identify and
modify critical business applications, there may be an interruption to the
Company's business that may have a material adverse affect on its business,
future financial condition and results of operations. In addition, Year-2000-
related disruptions in the general economy may also have a materially adverse
effect on the Company's future financial condition and results of operations.
At this time, the Company has not developed a "worst case" scenario or an
overall Year-2000 contingency plan but will do so when, if ever, management
believes such plans are warranted. Management believes that the majority of
the risks to its critical business operations are within the Company's control
and ability to address. (see "Forward-Looking Information" below).
Market Risk
The Company does not believe that it has significant exposures to market
risk. The majority of its foreign contracts are denominated and executed in
the applicable local currency. The interest rate risk associated with the
majority of the Company's borrowing activities is fixed, however, a 10%
increase or decrease in the average annual prime rate would result in an
increase or decrease of .72% multiplied by the weighted-average amount of
fluctuating rate borrowings outstanding during a period.
Forward-Looking Statements
From time to time, certain disclosures in reports and statements released by
the Company, or statements made by its officers or directors, will be forward-
looking in nature. These forward-looking statements may contain information
related to the Company's intent, belief, or expectation with respect to
contract awards and performance, potential acquisitions and joint ventures,
and cost-cutting measures. In addition, these forward-looking statements
contain a number of factual assumptions made by the Company regarding, among
other things, future economic, competitive, and market conditions. Because the
accurate prediction of any future facts or conditions may be difficult and
involve the assessment of events beyond the Company's control, actual results
may differ materially from those expressed or implied in such forward-looking
statements.
The Company is availing itself of the safe harbor provisions provided in the
Private Securities Litigation Reform Act of 1995 by cautioning readers that
the forward-looking statements that use words such as the Company "believes,"
"anticipates," "expects," "estimates," and "believes" are subject to certain
risks and uncertainties which could cause actual results of operations to
differ materially from expectations. These forward-looking statements will be
contained in the Company's federal securities laws filings or in written or
oral statements made by the Company's officers and directors to press,
potential investors, securities analysts, and others. Any such written or oral
forward-looking statements should be considered in context with the risk
factors discussed below:
. the Company requires access to a revolving credit line to fund short-term
borrowing needs of the Company's total remaining operations, as well as
the letter of credit capacity needed primarily by the
26
E&C Group. The Company may not be able to generate collateral to support a
borrowing base of sufficient size to obtain such credit or may not be able
to improve operating results enough, by removing overhead costs or
otherwise, to be able to obtain such credit.
. the Company may be precluded from attaining other satisfactory contract
performance guarantee mechanisms, such as performance bonding
capabilities.
. the Company may consider the sale of various operating groups in order to
generate liquidity sufficient to meet its obligations. In the event that
planned sales of operations cannot be consummated on a timely basis, the
Company will need access to other sources of working capital to
adequately fund its remaining operations.
. the Company may not be able to maintain existing contracts at current
levels and may not be able to realize increased contract performance
levels assumed for contracts. The Company is involved in a number of
fixed-price contracts under which the Company can benefit from cost
savings or performance efficiencies, but if certain pricing and
performance assumptions prove inaccurate, unrecoverable cost overruns can
occur.
. the Company may not be awarded new contracts for which it is competing in
its established markets or these awards may be delayed; in addition, the
Company may not be able to win contracts in the new markets it is
targeting. General economic conditions in the international arena,
especially Asia and Latin America, could negatively impact the Company's
current international business and its ability to expand in international
markets.
. the Company's EFM and Consulting Groups are very dep