Based upon its investigation and the proceedings to date, FWEC will vigorously defend itself against the claims brought against it in the above proceedings. However, it is premature to predict the ultimate outcome of these proceedings.
Our operations, especially our manufacturing and power plants, are subject to comprehensive laws adopted for the protection of the environment and to regulate land use. The laws of primary relevance to our operations regulate the discharge of emissions into the water and air, but can also include hazardous materials handling and disposal, waste disposal and other types of environmental regulation. These laws and regulations in many cases require a lengthy and complex process of obtaining licenses, permits and approvals from the applicable regulatory agencies. Noncompliance with these laws can result in the imposition of material civil or criminal fines or penalties. We believe that we are in substantial compliance with existing environmental laws. However, no assurance can be provided that we will not become the subject of enforcement proceedings that could cause us to incur material expenditures. Further, no assurance can be provided that we will not need to incur material expenditures beyond our existing reserves to make capital improvements or operational changes necessary to allow us to comply with future environmental laws.
With regard to the foregoing, the waste-to-energy facility operated by our CCERA project subsidiary is subject to certain revisions to New Jersey’s mercury air emission regulations. The revisions make CCERA’s mercury control requirements more stringent, especially when the last phase of the revisions becomes effective in 2012. CCERA’s management believes that the data generated during recent stack testing tends to indicate that the facility will be able to comply with even the most stringent of the regulatory revisions without installing additional control equipment. Even if the equipment had to be installed, CCERA believes that the project’s sponsor would be responsible to pay for the equipment. However, the sponsor may not have sufficient funds to do so. Preliminary budgetary estimates of the cost of installing the additional control equipment are approximately $24,000 based upon 2006 pricing.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (amounts in thousands of dollars, except share data and per share amounts)
The following is management’s discussion and analysis of certain significant factors that have affected our financial condition and results of operations for the periods indicated below. This management’s discussion and analysis and other sections of this quarterly report on Form 10-Q contain forward-looking statements that are based on our assumptions, expectations and projections about the various industries within which we operate. Such forward-looking statements by their nature involve a degree of risk and uncertainty. We caution that a variety of factors could cause business conditions and results to differ materially from what is contained in our forward-looking statements. For additional risk information, see Part II, Item 1A. “Risk Factors.”
This discussion and analysis should be read in conjunction with our financial statements and notes thereto included in this quarterly report on Form 10-Q and our annual report on Form 10-K for the year ended December 30, 2005, which we refer to as our 2005 Form 10-K.
Overview
We operate through two business groups – the Global Engineering & Construction Group, which we refer to as our Global E&C Group, and our Global Power Group. In addition, corporate center expenses, corporate debt expenses, restructuring expenses and certain legacy liabilities, such as asbestos, are reported independently in the Corporate and Finance Group, which we refer to as the C&F Group.
Results
Including the impact of the replacement of our senior credit agreement, asbestos gains and the loss on debt reduction initiatives as described below, we reported net income of $75,800 on operating revenues of $910,600 in the third quarter of 2006 and net income of $198,900 on operating revenues of $2,301,700 in the first nine months of 2006. In comparison and including the impact of the debt reduction initiative consummated in August 2005, we reported a net loss of $16,700 on operating revenues of $532,400 in third quarter of 2005 and net income of $12,400 on operating revenues of $1,581,400 in the first nine months of 2005. The volume of business coupled with increased margins on the work executed by our Global E&C Group continues to drive our operating performance in 2006.
Our consolidated new orders for the third quarter of 2006 increased $1,053,900, or 112%, to $1,996,100, compared to $942,200 in the third quarter of 2005. For the nine months ended September 2006, our consolidated new orders increased $1,679,100, or 59%, to $4,524,000, compared to $2,844,900 in the comparable period of 2005. As a result, our consolidated backlog increased 98% to $6,069,400 as of September 29, 2006, compared to $3,068,900 as of September 30, 2005. This is our highest level of backlog since the third quarter of 2001. Our backlog measured in terms of Foster Wheeler scope (as defined below) as of September 29, 2006 was $2,997,200.
In October 2006, we closed on a new five-year, $350,000 senior credit agreement. This new senior credit agreement provides increased bonding capacity and financial flexibility at a significantly lower cost when compared to the prior senior credit agreement. We will be able to utilize the facility by issuing letters of credit up to $350,000 and have the option to use up to $100,000 of the $350,000 for revolving borrowings. The prior senior credit agreement, which has been voluntarily terminated, allowed us to issue letters of credit up to $250,000 with an option to use up to $75,000 of the $250,000 for revolving borrowings. We recorded a charge of $14,800 in the third quarter of 2006 related to the early termination fee and the impairment of unamortized fees and expenses associated with the prior senior credit agreement.
In the third quarter of 2006, we settled with three additional asbestos insurers. As a result of these settlements, we received cash of $12,600, increased our insurance asset by $4,000 and recorded a gain of $16,600 in the third quarter of 2006. In the second quarter of 2006, we settled with one other of our remaining unsettled asbestos insurers and recorded a gain of $79,600 in the second quarter of 2006.
Also in the third quarter of 2006, we were successful in our appeal of the New York state trial court decision that previously had held that New York, rather than New Jersey, law applies in the coverage litigation with our subsidiaries’ insurers. As a result, we also increased our insurance asset and recorded a gain of $19,500 in the third quarter of 2006.
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We substantially completed our aggressive program of debt reduction during the second quarter of 2006. In April 2006, we consummated the exchange of 1,277,900 of our common shares for $50,000 of outstanding aggregate principal amount of our 2011 senior notes. Under the terms of the exchange, the participating holders received 25.558 common shares for each thousand dollars of aggregate principal amount of 2011 senior notes, including accrued and unpaid interest, exchanged. In May 2006, we redeemed for cash the remaining $61,500 of outstanding aggregate principal amount of 2011 senior notes and the remaining $6,000 of outstanding trust preferred securities. Finally, in June 2006, we executed an open market purchase of $1,000 of outstanding aggregate principal amount of convertible notes. These initiatives reduced the carrying amount of outstanding debt by $122,100. We recorded a charge to income of $12,300 associated with these initiatives in the second quarter of 2006.
Challenges and Drivers
Our primary operating focus is booking quality backlog and executing contracts well. The global markets in which we operate are largely dependent on overall economic growth and the resultant demand for oil and gas, electric power, petrochemicals and refined products, which in turn stimulate an increase in investment in new and expanded plants. These markets continued to be strong in the first nine months of 2006.
The Global E&C Group’s new orders for the third quarter of 2006 were $1,748,100. We expect that capital investments in the markets served by our Global E&C Group, including the chemical, petrochemical, oil refining, liquefied natural gas and upstream oil and gas industries, will remain strong throughout the remainder of 2006 and into 2007. The Global Power Group’s new orders for the third quarter of 2006 were $248,000. We believe that there are significant growth opportunities in the markets we serve in 2006 and into 2007, such as solid fuel-fired boilers, boiler services, boiler environmental products and boiler-related construction services. We believe that we are well positioned to address both our Global E&C Group and Global Power Group markets.
Asbestos trust fund legislation has been proposed in the U.S. Senate. This proposed legislation, should it become law in its original form, would alter our forecast payment obligations, and we would not receive any payments for future costs under our settlement agreements that could be used by us for contributions to the trust fund. Under the form of the legislation reintroduced in the Senate in May 2006, our annual contributions to a national trust fund over 30 years in lieu of any other liability for asbestos claims would be limited so that we would contribute no more than the lesser of 5% of our annual adjusted cash flow, subject to certain aggregate caps and minimums, or $19,250. We have supported this modification to the legislation. If the legislation were not enacted prior to the end of the current Congressional session, it would need to be reintroduced as a new bill in the next Congress in order to be considered.
New pension legislation has recently been enacted in the United States. Although we are still evaluating the impact on our domestic pension plans of the new pension legislation, we believe the legislation will require us to increase future cash contributions to our domestic pension plans commencing in 2008. In addition, proposed pension legislation has been introduced in the United Kingdom, which, if enacted, could have an adverse impact on the amount and timing of our future cash contributions.
Liquidity
We forecast cash flow over a twelve-month period and project that sufficient cash will be available to fund our working capital needs through the end of such period. See “—Liquidity and Capital Resources” in this Form 10-Q for additional details. As with any forecast, there can be no assurance that the cash amounts realized and/or timing of the cash flows will match our forecast.
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Results of Operations
Consolidated Operating Revenues:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 910,580 | | $ | 532,356 | | $ | 378,224 | | 71.0 | % |
Nine months ended | | $ | 2,301,729 | | $ | 1,581,439 | | $ | 720,290 | | 45.5 | % |
The increases in operating revenues reflect greater business activity in both our Global E&C Group and our Global Power Group (see Note 11 to the condensed consolidated financial statements in this Form 10-Q). The increases are due largely to the significant increase in bookings that occurred in 2005 and the early part of 2006 in both our Global E&C Group and our Global Power Group. Additionally, $91,700 and $178,500 of the third quarter and year-to-date 2006 increases, respectively, result from a corresponding increase in flow-through costs in our Global E&C Group on projects executed by our United Kingdom, Continental Europe and Asia-Pacific operations. Flow-through costs relate to projects where we purchase and install equipment on behalf of our customers on a reimbursable basis with no mark-up. Therefore, while flow-though costs do not impact contract profit or net earnings, higher flow-through costs have the effect of reducing our reported margins as a percent of operating revenues.
Consolidated Contract Profit:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 135,312 | | $ | 97,950 | | $ | 37,362 | | 38.1 | % |
Nine months ended | | $ | 348,792 | | $ | 286,332 | | $ | 62,460 | | 21.8 | % |
Consolidated contract profit is computed as consolidated operating revenues less consolidated cost of operating revenues. The increases in contract profit reflect the significant increase in bookings that occurred in 2005 and the early part of 2006 in both our Global E&C Group and our Global Power Group and increased margins in our Global E&C Group.
Consolidated Selling, General and Administrative (SG&A) Expenses:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 57,666 | | $ | 50,975 | | $ | 6,691 | | 13.1 | % |
Nine months ended | | $ | 170,913 | | $ | 166,321 | | $ | 4,592 | | 2.8 | % |
SG&A expenses include the costs associated with general management, sales pursuit, including proposal expenses, and research and development costs. The third quarter 2006 increase results primarily from an increase in general overhead of $10,200 and research and development costs of $400, which was partially offset by a decrease in sales pursuit costs of $3,900. The year-to-date 2006 increase results primarily from an increase in general overhead of $20,300, which was partially offset by a decrease in sales pursuit costs of $15,400 and research and development costs of $300. The increases in general overhead result primarily from $3,000 of severance costs in the year-to-date 2006 period in our domestic and European Global Power Group businesses, resulting from several senior management changes, and $1,900 and $5,600 from non-cash equity-based compensation expense in the third quarter and year-to-date 2006, respectively, related to the adoption of Statement of Financial Accounting Standard (“SFAS”) No. 123R, “Share-Based Payment.”
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Consolidated Other Income:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 5,382 | | $ | 15,054 | | $ | (9,672 | ) | (64.2 | )% |
Nine months ended | | $ | 41,250 | | $ | 44,385 | | $ | (3,135 | ) | (7.1 | )% |
Other income for the third quarter of 2006 consists primarily of $3,700 of interest income, and $900 in equity earnings generated from our investments, primarily from minority ownership interests, in build, own, and operate projects in Italy and Chile. During the third quarter of 2006, the majority owners of certain build, own, and operate projects in Italy sold their interests to another third party. Prior to this sale, our earnings from our minority interests in these projects were reported on a pretax basis in consolidated other income and the associated taxes were reported in the consolidated provision for income taxes because we and the other partners elected pass-through taxation treatment under local law. As a direct result of the ownership change arising from the sale, the subject entities are now precluded from electing pass-through taxation treatment. As a result, commencing in the third quarter of 2006, we reported the related after-tax earnings in consolidated other income. This change, which was recorded in the third quarter of 2006, reduced consolidated other income and the consolidated provision for taxes by $7,700.
Other income for the third quarter of 2005 consists primarily of $2,000 of interest income, $10,700 in equity earnings generated from our investments, primarily from minority ownership interests, in build, own, and operate projects in Italy and Chile, and $300 of investment income earned by our captive insurance company.
Other income for the first nine months of 2006 consists primarily of $10,200 of interest income, $24,800 in equity earnings generated from our investments, primarily from minority ownership interests, in build, own, and operate projects in Italy and Chile, a $1,000 gain on the sale of a previously closed manufacturing facility in Dansville, New York, and $800 of investment income earned by our captive insurance company.
Other income for the first nine months of 2005 consists primarily of $6,500 of interest income, $24,600 in equity earnings generated from our investments, primarily from minority ownership interests, in build, own, and operate projects in Italy and Chile, a $1,500 gain recognized in the U.K. on the sale of an investment, $1,100 of investment income earned by our captive insurance company, and non-contract related claim recoveries and adjustments of $3,200.
Consolidated Other Deductions:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 14,983 | | $ | 6,415 | | $ | 8,568 | | 133.6 | % |
Nine months ended | | $ | 33,070 | | $ | 25,684 | | $ | 7,386 | | 28.8 | % |
Other deductions for the third quarter of 2006 consists primarily of $2,000 of bank fees, $5,600 of legal fees, $700 of consulting fees, $1,500 of exchange losses, $4,200 provision for environmental dispute resolution and remediation costs, and $(200) of bad debt recovery.
Other deductions for the third quarter of 2005 consists primarily of $1,400 of bank fees, $3,600 of legal fees, $700 of environmental costs, and $(3,700) of bad debt recovery.
Other deductions for the first nine months of 2006 consists primarily of $5,500 of bank fees, $13,400 of legal fees, $4,000 of consulting fees, $2,600 of exchange losses, $4,300 provision for environmental dispute resolution and remediation costs, and $(1,200) of bad debt recovery.
Other deductions for the first nine months of 2005 consists primarily of $7,300 of bank fees, $3,500 of which was associated with our previous senior credit facility, $7,300 of legal fees, $3,200 of exchange losses, $3,600 of environmental costs, and $(6,500) of bad debt recovery.
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Consolidated Interest Expense:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 5,068 | | $ | 12,590 | | $ | (7,522 | ) | (59.7 | )% |
Nine months ended | | $ | 19,803 | | $ | 41,412 | | $ | (21,609 | ) | (52.2 | )% |
The decrease in third quarter and year-to-date 2006 interest expense reflects the benefits from our debt reduction initiatives completed in the second quarter of 2006.
Consolidated Minority Interest:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 2,255 | | $ | 2,117 | | $ | 138 | | 6.5 | % |
Nine months ended | | $ | 3,251 | | $ | 4,903 | | $ | (1,652 | ) | (33.7 | )% |
Minority interest reflects third-party ownership interests in the results of our Global Power Group’s Martinez, California gas-fired cogeneration facility, and manufacturing facilities in Poland and the People’s Republic of China. The change in the year-to-date 2006 minority interest expense results primarily from higher gas prices and, to a lesser extent, maintenance expenses at the Martinez cogeneration facility.
Consolidated Net Gains on Asbestos:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 36,074 | | $ | — | | $ | 36,074 | | N/M | |
Nine months ended | | $ | 115,664 | | $ | — | | $ | 115,664 | | N/M | |
N/M – not meaningful.
Primarily as a result of asbestos insurance settlements and a favorable ruling of our appeal of the New York state trial court decision that previously had held that New York, rather than New Jersey, law applies in the coverage litigation with our subsidiaries’ insurers, we recorded net gains of $36,100 and $115,700 in the three and nine months ended September 29, 2006, respectively. Refer to Note 12 to the condensed consolidated financial statements in this Form 10-Q for more information.
Consolidated Prior Senior Credit Agreement Fees and Expenses:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 14,823 | | $ | — | | $ | 14,823 | | N/M | |
Nine months ended | | $ | 14,823 | | $ | — | | $ | 14,823 | | N/M | |
N/M – not meaningful.
The prior senior credit agreement fees and expenses result from the voluntary replacement of our previous senior credit agreement with a new senior credit agreement in October 2006. We were required to pay a prepayment fee of $5,000 in October 2006 as a result of the early termination of this agreement. We also recorded $439 in other termination fees and expenses. In addition, the early termination also resulted in the impairment of $9,400 of unamortized fees and expenses paid in 2005 associated with this agreement. In total, we recorded a charge of $14,800 in the third quarter of 2006 in connection with the termination of the prior senior credit agreement.
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Consolidated Loss on Debt Reduction Initiatives:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | — | | $ | 40,213 | | $ | (40,213 | ) | (100.0 | )% |
Nine months ended | | $ | 12,483 | | $ | 41,513 | | $ | (29,030 | ) | (69.9 | )% |
The consolidated loss on debt reduction initiatives for the year-to-date 2006 period results from the debt reduction activities completed in the second quarter of 2006. The charge to income reflects a loss of $8,200 on the 2011 senior notes exchange transaction resulting primarily from the difference between the fair market value of the common shares issued and the carrying value of the 2011 senior notes exchanged, a loss of $3,900 on the 2011 senior notes redemption transaction resulting primarily from a make-whole premium payment, and a loss of $200 on the trust preferred securities and convertible notes redemptions resulting primarily from the write-off of deferred charges. The consolidated loss on the debt reduction initiatives was offset by an improvement in consolidated shareholders’ equity/(deficit) of $58,800, resulting from the issuance of our common shares.
The consolidated loss on debt reduction initiatives for the third quarter and year-to-date 2005 periods results from the trust securities exchange offer consummated in August 2005. The charge to income, which was substantially non-cash, reflects primarily the difference between the fair market value of the common shares issued and the carrying value of the trust preferred securities. The consolidated loss on the debt reduction initiatives was offset by an improvement in consolidated shareholders’ equity/(deficit) of $129,100, resulting from the issuance of the common shares.
Consolidated Provision for Income Taxes:
| | September 29, 2006 | | September 30, 2005 | | $ Change | | % Change | |
| |
| |
| |
| |
| |
Three months ended | | $ | 6,146 | | $ | 17,400 | | $ | (11,254 | ) | (64.7 | )% |
Nine months ended | | $ | 52,487 | | $ | 38,471 | | $ | 14,016 | | 36.4 | % |
The consolidated tax provision results from the fact that certain of our operating units in Europe and Asia are profitable and are recording a provision for national and/or local income taxes. The consolidated tax provision also includes certain domestic state taxes and other U.S. permanent items. Additionally, taxes may be due in countries where our operating units execute project-related work. The pretax earnings of these profitable operations cannot be offset against certain other operations generating losses. Further, with regard to our operations generating losses, SFAS No. 109, “Accounting for Income Taxes,” requires us to reduce our deferred tax benefits by a valuation allowance when, based upon available evidence, it is more likely than not that these tax benefits will not be realized for these operations in the future. Additionally, pretax earnings generated by operating units subject to a valuation allowance result in a reduction of the valuation allowance and favorably impact our effective tax rate, which occurred in the U.S. during the second and third quarters of 2006 (as a result of the net gains on asbestos) and in certain non-U.S. jurisdictions.
Our effective tax rate is dependent on the location and amount of our taxable earnings and the effects of changes in valuation allowances. The difference between the statutory and effective tax rates for the three and nine months ended September 29, 2006 results predominantly from earnings in jurisdictions where we have previously recorded a full valuation allowance (primarily the U.S. as a result of the net gains on the asbestos settlements and certain non-U.S. jurisdictions) and non-U.S earnings taxed at rates lower than the U.S. statutory rate offset by losses subject to valuation allowance in certain other non-U.S. jurisdictions and certain U.S. permanent items. We also experienced a decrease in our consolidated tax provision during the three months ended September 29, 2006 related to our equity earnings on certain build, own, and operate projects in Italy. For more information on this change, please refer to the section entitled “Consolidated Other Income” within this Management’s Discussion and Analysis of Financial Condition and Results of Operations. The difference between the statutory and effective tax rates for the three and nine months ended September 30, 2005 results predominantly from taxable income in certain jurisdictions (primarily non-U.S.) combined with a valuation allowance offsetting other loss benefits in other jurisdictions (primarily U.S.). We monitor the jurisdictions for which valuation allowances against deferred tax assets were established in previous years. As we currently are experiencing a positive earnings trend in certain of these jurisdictions, we continue to evaluate the need to reverse such valuation allowances with respect to the deferred tax assets of these jurisdictions on a quarterly basis. Such evaluation includes a review of all available evidence, both positive and negative, in determining whether a valuation allowance is necessary.
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For statutory purposes, the majority of the domestic federal tax benefits, against which valuation reserves have been taken, do not expire until 2024 and beyond, based on current tax laws.
Consolidated EBITDA:
| | September 29, 2006 | | September 30, 2005 | |
$ Change
| |
% Change
| |
| |
| |
| |
| |
| |
Three months ended | | $ | 95,059 | | $ | 20,248 | | $ | 74,811 | | 369.5 | % |
Nine months ended | | $ | 293,450 | | $ | 113,657 | | $ | 179,793 | | 158.2 | % |
The increase in consolidated EBITDA reflects the impact of the aforementioned asbestos settlements, partially offset by the impact of debt reduction initiatives and the costs associated with the replacement of our senior credit agreement, along with strong operating performance in our Global E&C Group, offset by our Global Power Group operations in Europe. See the individual segment explanations below for additional details.
EBITDA is a supplemental, non-generally accepted accounting principle financial measure. EBITDA is defined as income before income taxes (and before goodwill charges), interest expense, depreciation and amortization. We have presented EBITDA because we believe it is an important supplemental measure of operating performance. EBITDA, after adjustment for unusual and infrequent items specifically excluded in the terms of our current and prior senior credit agreements, is used for certain covenants under our current and prior senior credit agreements. We believe that the line item on our condensed consolidated statement of operations and comprehensive income/(loss) entitled “net income/(loss)” is the most directly comparable generally accepted accounting principle (“GAAP”) financial measure to EBITDA. Since EBITDA is not a measure of performance calculated in accordance with GAAP, it should not be considered in isolation of, or as a substitute for, net income/(loss) as an indicator of operating performance or any other GAAP financial measure. EBITDA, as calculated by us, may not be comparable to similarly titled measures employed by other companies. In addition, this measure does not necessarily represent funds available for discretionary use, and is not necessarily a measure of our ability to fund our cash needs. As EBITDA excludes certain financial information compared with net income/(loss), the most directly comparable GAAP financial measure, users of this financial information should consider the type of events and transactions that are excluded. Our non-GAAP performance measure, EBITDA, has certain material limitations as follows:
| • | It does not include interest expense. Because we have borrowed money to finance some of our operations, interest is a necessary and ongoing part of our costs and has assisted us in generating revenue. Therefore, any measure that excludes interest has material limitations; |
| • | It does not include taxes. Because the payment of taxes is a necessary and ongoing part of our operations, any measure that excludes taxes has material limitations; |
| • | It does not include depreciation. Because we must utilize substantial property, plant and equipment in order to generate revenues in our operations, depreciation is a necessary and ongoing part of our costs. Therefore, any measure that excludes depreciation has material limitations. |
A reconciliation of EBITDA, a non-GAAP financial measure, to net income/(loss), a GAAP measure, is shown below.
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| | Total | | Global
E&C Group | | Global
Power Group | | C&F
Group(1) | |
| |
| |
| |
| |
| |
Three Months Ended September 29, 2006 | | | | | | | | | | | | | |
EBITDA | | $ | 95,059 | | $ | 78,668 | (2) | $ | 20,371 | (2) | $ | (3,980 | )(2) |
| | | | |
|
| |
|
| |
|
| |
Less: Interest expense | | | (5,068 | ) | | | | | | | | | |
Less: Depreciation and amortization | | | (8,018 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Income before income taxes | | | 81,973 | | | | | | | | | | |
Provision for income taxes | | | (6,146 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Net income | | $ | 75,827 | | | | | | | | | | |
| |
|
| | | | | | | | | | |
Three Months Ended September 30, 2005 | | | | | | | | | | | | | |
EBITDA | | $ | 20,248 | | $ | 54,880 | (3) | $ | 27,510 | (3) | $ | (62,142 | )(3) |
| | | | |
|
| |
|
| |
|
| |
Less: Interest expense | | | (12,590 | ) | | | | | | | | | |
Less: Depreciation and amortization | | | (6,964 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Income before income taxes | | | 694 | | | | | | | | | | |
Provision for income taxes | | | (17,400 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Net loss | | $ | (16,706 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Nine Months Ended September 29, 2006 | | | | | | | | | | | | | |
EBITDA | | $ | 293,450 | | $ | 221,027 | (4) | $ | 56,342 | (4) | $ | 16,081 | (4) |
| | | | |
|
| |
|
| |
|
| |
Less: Interest expense | | | (19,803 | ) | | | | | | | | | |
Less: Depreciation and amortization | | | (22,284 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Income before income taxes | | | 251,363 | | | | | | | | | | |
Provision for income taxes | | | (52,487 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Net income | | $ | 198,876 | | | | | | | | | | |
| |
|
| | | | | | | | | | |
Nine Months Ended September 30, 2005 | | | | | | | | | | | | | |
EBITDA | | $ | 113,657 | | $ | 133,552 | (5) | $ | 90,174 | (5) | $ | (110,069 | )(5) |
| | | | |
|
| |
|
| |
|
| |
Less: Interest expense | | | (41,412 | ) | | | | | | | | | |
Less: Depreciation and amortization | | | (21,361 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Income before income taxes | | | 50,884 | | | | | | | | | | |
Provision for income taxes | | | (38,471 | ) | | | | | | | | | |
| |
|
| | | | | | | | | | |
Net income | | $ | 12,413 | | | | | | | | | | |
| |
|
| | | | | | | | | | |
(1) | Includes general corporate income and expense, our captive insurance operation and eliminations. |
(2) | Includes in the three months ended September 29, 2006: (decreased)/increased contract profit of $(10,300) from the regular re-evaluation of contract profit estimates: $2,900 in our Global E&C Group and $(13,200) in our Global Power Group; net gains on asbestos of $36,100 recorded in C&F; and an aggregate charge of $(14,800) recorded in C&F in conjunction with the termination of our previous senior credit agreement. |
(3) | Includes in the three months ended September 30, 2005: increased contract profit of $28,800 from the regular re-evaluation of contract profit estimates: $18,300 in our Global E&C Group and $10,500 in our Global Power Group; and a net charge of $(40,200) recorded in C&F in conjunction with the trust preferred securities exchange offer consummated in August 2005. |
(4) | Includes in the nine months ended September 29, 2006: increased/(decreased) contract profit of $1,000 from the regular re-evaluation of contract profit estimates: $13,800 in our Global E&C Group and $(12,800) in our Global Power Group; net gains on asbestos of $115,700 recorded in C&F; an aggregate charge of $(14,800) recorded in C&F in conjunction with the termination of our previous senior credit agreement; and a net charge of $(12,500) recorded in C&F in conjunction with the debt reduction initiatives completed in April and May 2006. |
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(5) | Includes in the nine months ended September 30, 2005: increased contract profit of $93,700 from the regular re-evaluation of contract profit estimates: $62,900 in our Global E&C Group and $30,800 in our Global Power Group; $(3,500) of credit agreement costs associated with a previous senior credit facility in C&F; and a net charge of $(41,500) recorded in C&F in conjunction with the trust preferred securities exchange offer consummated in August 2005. |
Reportable Segments
We use several financial metrics to measure the performance of our business segments. EBITDA, as discussed and defined above, is the primary earnings measure used by our chief decision makers.
Global E&C Group
| | Three Months Ended | | Nine Months Ended | |
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Third-party revenues | | $ | 619,659 | | $ | 366,517 | | $ | 253,142 | | 69.1 | % | $ | 1,515,382 | | $ | 1,044,915 | | $ | 470,467 | | 45.0 | % |
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EBITDA | | $ | 78,668 | | $ | 54,880 | | $ | 23,788 | | 43.3 | % | $ | 221,027 | | $ | 133,552 | | $ | 87,475 | | 65.5 | % |
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Results
The increases in revenues reflect primarily increased volumes of work at all of our Global E&C Group operating units. Projects in the Middle East, Australia and Italy in the oil and gas and chemical/petrochemical industries led the increase in activities.
The increases in EBITDA result primarily from the increased volumes of work and improved margins at our European and North American operations. The markets served by our Global E&C Group remain strong and we have increased our direct manpower by 10.7% during the third quarter of 2006, primarily in our United Kingdom, Indian, North American and Asian offices to help capture the market growth. We plan to continue to expand our operational capacity throughout 2006.
Overview of Segment
Strong global economic growth and strong demand for oil and gas, petrochemicals and refined products continues to stimulate investment in new and expanded plants. We expect global economic growth and demand for oil and gas, petrochemicals and refined products to remain strong throughout the remainder of 2006 and through 2007.
Although oil and gas prices have fallen in recent weeks, they continue to be at historically high levels, leading to increased investment in oil and gas production facilities. This is expected to continue throughout 2006 and 2007. We anticipate that oil and gas spending will increase in most regions, particularly West Africa, the Middle East, Russia and the Caspian states. We believe that rising demand for natural gas in Europe, Asia and the United States, combined with a shortfall in indigenous production, continues to act as a stimulant to the liquefied natural gas (“LNG”) business. We expect that investment will continue throughout 2006 and 2007 for both LNG liquefaction plants and receiving terminals.
We believe that the global refining system is running at very high utilization rates, which combined with increasing global demand for transportation fuels and the current wide price differential between heavier higher-sulfur crudes and lighter, sweeter crudes, is stimulating refinery investment, particularly to process heavier, higher-sulfur crudes.
The aforementioned price differential also drives the strong economic case for upgrading refinery residue to higher value transportation fuels and we expect to see substantial investment in bottom-of-the-barrel upgrading projects in Europe, the United States and potentially Asia. We believe that additional client refinery investment decisions will be made this year and into 2007. We have considerable experience and expertise in this area including our proprietary delayed coking technology. We have seen an increase in the number of studies for potential delayed coking refinery units and our delayed coking technology, know-how, and experience designing and constructing delayed cokers places us in a good competitive position to address this market. We are currently working on several delayed coking projects in South America, the U.S. and Europe.
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Capacity constraints are generating an interest in additional refinery capacity, both greenfield and expansions. Companies have already announced several projects in the Middle East, and major expansion plans are being implemented for new facilities in Southeast Asia and China. We believe that the current cycle of investment at U.S. and European refineries to meet the demands of clean fuels legislation has now wound down. However, refineries in the Middle East, North Africa and Asia are now embarking on similar programs. We are currently working on environmentally driven projects in the Middle East and Europe.
Investment in petrochemical plants rose sharply in 2004 and 2005 in response to strong demand growth. The majority of this investment has been centered in the Middle East. We believe that continued strong demand growth will support further new investment in the Middle East and Asia throughout 2006 and 2007. We continue to execute several major petrochemical contracts.
Although the pharmaceutical industry continues to grow rapidly, investment in new production facilities slowed in 2004 and 2005. We believe this was attributable to industry cost pressure and increased regulation. Investment has focused on plant upgrading and improvement projects rather than major new production facilities. There are now indications of some renewed interest in more significant plant investment in the key pharmaceutical investment hubs – Singapore, Ireland and Puerto Rico.
Global Power Group
| | Three Months Ended | | Nine Months Ended | |
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Third-party revenues | | $ | 290,979 | | $ | 165,864 | | $ | 125,115 | | 75.4 | % | $ | 786,347 | | $ | 536,534 | | $ | 249,813 | | 46.6 | % |
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EBITDA | | $ | 20,371 | | $ | 27,510 | | $ | (7,139 | ) | (26.0 | )% | $ | 56,342 | | $ | 90,174 | | $ | (33,832 | ) | (37.5 | )% |
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Results
The increases in revenues result from increased bookings that largely occurred in the fourth quarter of 2005 and the first quarter of 2006 in our operations in Europe and North America.
Our Global Power Group experienced lower levels of year-to-date 2006 EBITDA as compared to 2005 primarily as a result of poor performance on eight contracts resulting in approximately $26,200 of reductions in contract profit in Europe and North America in the first nine months of 2006; net gains of approximately $2,600 on contract dispute settlements with clients in North America that occurred in 2005 that were not repeated in 2006; and from reduced margins on projects currently being executed in Europe and North America versus several high margin contracts executed in Asia during 2005.
The contracts awarded in 2005 and early 2006 remain in the relatively early stages of execution when we typically have low levels of physical progress achieved, resulting in relatively low levels of EBITDA. As physical progress on these projects is achieved throughout the balance of 2006 and into the first quarter of 2007 and as progress is achieved on more recent bookings containing higher margins, we anticipate increased levels of EBITDA.
Our senior management team continues to work on strategic initiatives to improve the Global Power Group’s financial performance.
Overview of Segment
Although the solid fuel-fired boiler market remains highly competitive, we believe that there are several continuing global market forces that will positively influence our Global Power Group. We believe that continued worldwide economic growth is driving power demand growth in most world regions. In addition, global natural gas and oil supply concerns have driven gas and oil prices upwards to historically high levels. We expect natural gas fuel price volatility to remain high over the next 3-5 years due to declining domestic supplies in the world’s largest industrialized countries. In addition, we expect growth in sales of our environmental retrofit products due to further tightening of environmental regulations, including the development and growing acceptance of global greenhouse gas regulation. We believe that the combined effect of these factors will have a significant positive influence on the demand for our products and services, such as new utility and industrial solid fuel boilers, boiler services, boiler environmental products, and boiler-related construction services.
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In North America, we believe the declining generating capacity reserves across the region coupled with persistent high oil and natural gas pricing is spurring market growth for large coal utility boilers. Given the uncertainty of future greenhouse gas regulation, we are seeing a growing market preference for supercritical utility boilers. Plants that use these technologies operate more efficiently by producing the least amount of air emissions, including greenhouse gas, per unit of electricity produced. We believe clients are selecting these technologies as a hedge against future greenhouse gas, mercury and other pollutant regulation that could occur in the near term. Due to this market direction, our Global Power Group is now actively marketing large-scale supercritical boiler technology as part of our utility boiler product portfolio to capitalize on this business opportunity. From the industrial sector, we are seeing growth in the solid fuel industrial boiler market, driven by high oil and gas pricing. These boilers offer industrial clients an attractive economic solution to supply their energy needs by utilizing low cost biomass and other solid opportunity fuels. Many of these fuels also carry governmental tax credits and other financial incentives to encourage their use as renewable fuels making them more attractive to both the industrial and utility power sectors. We believe that our circulating fluidized-bed, or CFB, boiler technology is well positioned to serve this market segment due to its outstanding fuel flexibility and excellent environmental performance. The U.S. Environmental Protection Agency’s, or EPA’s, recent finalization of the Clean Air Interstate Rule and the implementation of earlier New Source Review lawsuit settlements brought against a number of utilities by the EPA continue to drive a strong retrofit pollution control market, including add-on pollution control systems, such as low NOx combustion systems, selective catalytic reduction systems and flue gas desulphurization systems. This market trend should benefit sales of our environmental products. Finally, we believe that due to reducing capacity margins (which represents the amount of unused available capability as a percentage of total capability), coal utility power plants are running harder to produce more electricity, which in turn is spurring maintenance investment by owners. We also think that owners are making larger capital investments in these plants to extend their lives. We believe these factors are helping to maintain a strong boiler service market, which should benefit our boiler service business.
We own a 50.5% interest in Martinez Cogen L.P., which owns and operates a natural gas fired cogeneration facility located at, and supplying most of its electrical and steam output to, an oil refinery in Martinez, California. The financial condition, results of operations and cash flows of Martinez Cogen L.P. are impacted by, among other things, the cost of natural gas and the electric tariffs upon which most of its revenues are based. The electric tariffs are set by independent regulatory agencies and are updated periodically. Martinez Cogen L.P. is at risk if the electric tariffs decrease or do not increase sufficiently to recover the increased cost of natural gas within a timely period. Additionally, the oil refinery purchasing the electricity and steam has the contractual right to purchase the plant at a price determined by the greater of the fair market value or book value of the facility. Depending upon market conditions at the time such purchase option might be exercised, an accounting impairment charge or gain could result. While the exercise of the purchase option is possible, we cannot predict the timing of any potential purchase option exercise or reasonably estimate the possible loss or gain that could result. The management of Martinez Cogen L.P. is discussing with the refinery a potential restructuring of the agreements between Martinez Cogen L.P. and the refinery.
In Europe, we believe that many of the same market forces discussed above are resulting in similar beneficial market trends for our European power business. We believe that declining power capacity reserves across the region coupled with persistent high oil and natural gas pricing is spurring market growth for large utility coal boilers. Due to Europe’s historical preference for high efficiency coal power plants and active greenhouse gas regulation for power plants (emissions trading scheme), we believe supercritical boiler technology will continue to be the preference in the utility boiler market sector. For this market segment, we believe that our supercritical CFB technology significantly increases our opportunity to take full advantage of the substantial domestic coal reserves held by many industrialized nations. In the fourth quarter of 2005, we were awarded a lump-sum turnkey contract for the design, supply and erection of the world’s largest CFB boiler and the world’s first supercritical CFB unit in Poland. From the industrial sector, driven by increasing power prices, and high oil and gas pricing, we are seeing growth in the solid fuel industrial power market, which is benefiting sales of our industrial boilers. The European Union, or EU, has established regulation and incentive programs to encourage the use of biomass and other waste fuels, which we believe is spurring growth both in the industrial and utility sectors for our CFB boilers market. We believe that the EU’s new landfill and waste recycling directives has opened a new market for our CFB boilers firing refuse derived fuels. The EU’s Large Combustion Plant Directive, or LCPD, is expected to drive growth in the retrofit pollution control market, which should benefit our environmental products business. Due to the LCPD’s relatively mild first step reduction goals, we do not expect to see significant growth until after 2008 in this sector. Finally, coal utility power plants in Europe are running harder to produce more electricity spurring maintenance and life extension investment by owners. Similar to the U.S., reduced capacity margins are driving this market, which is having a positive effect on the volume of our boiler service sales.
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In Asia, we believe that high economic growth continues to drive strong power demand growth and demand for new power capacity. The region’s historically high coal use, now coupled with high world oil and gas pricing, will likely continue to drive growth for coal-fueled utility and industrial boilers in the region. The region contains some of the world’s largest utility and industrial boiler markets, such as China and India, offering opportunities to our Global Power Group businesses. Historically, it has been difficult for foreign companies to penetrate these markets due to national trade policies and client preference for local companies. To maximize our opportunities, we are pursuing a licensing strategy that gives us the double benefit of gaining access to these closed markets while expanding our capacity and resources through our licensees to expand further in the global market place. Due to the region’s growing environmental awareness, we see opportunities for our CFBs as well as our supercritical pulverized coal, or PC, boiler technologies, as well as biomass and opportunity fuel applications. We also see substantial opportunity for our CFB boilers in the potentially large Indian power market resulting from the country’s abundant low quality coals. Finally, reduced capacity margins are also resulting in coal utility power plants being run harder to produce more electricity spurring maintenance and life extension investment by owners, offering further opportunity for our boiler services.
Due to these market factors, the Global Power Group is actively marketing our PC and CFB boilers utilizing both conventional as well as supercritical steam designs, and our boiler maintenance services on a worldwide scale.
Liquidity and Capital Resources
Year-to-Date 2006 Activities
As of September 29, 2006, we had cash and cash equivalents on hand, short-term investments and restricted cash totaling $509,700, compared to $372,700 as of December 30, 2005. The increase results primarily from cash provided from operations of $133,600, cash provided by financing activities of $7,000 and favorable exchange rate changes on cash and cash equivalents of $11,600, partially offset by cash used in investing activities of $16,000. Of the $509,700 total at September 29, 2006, $372,500 was held by our foreign subsidiaries. See Note 1 to the condensed consolidated financial statements in this Form 10-Q for additional details on cash and restricted cash balances.
We generated cash from operations of $133,600 in the first nine months of 2006, compared to generating $900 of cash from operations during the comparable period in 2005. Our operating cash flow during the first nine months of 2006 was impacted primarily by the strong operating performance of our Global E&C Group. Our working capital varies from period to period depending on the mix, stage of completion and commercial terms and conditions of our contracts. Working capital in our Global E&C Group tends to rise as the workload of reimbursable contracts increases while working capital tends to decrease in our Global Power Group when the workload increases. The cash generated from operations in the first nine months of 2005 results primarily from the operating performance of both our Global E&C Group and Global Power Group.
Capital expenditures in the first nine months of 2006 were $19,400, compared to $6,700 for the comparable period of 2005. The capital expenditures related primarily to leasehold improvements, information technology equipment and office equipment at our Global E&C Group offices in the United Kingdom, Continental Europe and Asia-Pacific and the expansion of the Global Power Group’s manufacturing facility in China. We anticipate spending an additional $1,100 on the expansion of this manufacturing facility over the remainder of 2006, which we anticipate financing with a local debt facility. We also anticipate spending €22,000 (approximately $27,900 at the current exchange rate) in our FW Power S.r.L. business over the balance of 2006 and 2007 as we continue construction of the electric power generating wind farm projects in Italy. We anticipate financing €19,000 (approximately $24,100 at the current exchange rate) of these construction costs with special purpose limited recourse project debt, although such financing has not yet been secured.
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Cash provided by financing activities in the first nine months of 2006 was $7,000, compared to using $27,200 of cash for financing activities in the comparable period in 2005. The cash provided by financing activities in the first nine months of 2006 reflects primarily warrant offer proceeds and stock option proceeds, partially offset by the redemption of the 2011 senior notes and trust preferred securities. The cash used in financing activities in the first nine months of 2005 results primarily from the payment of financing costs of $13,400 in conjunction with the execution of our previous senior credit agreement and planned debt repayments of $11,500.
In October 2006, we closed on a new five-year, $350,000 senior credit agreement, which replaced the senior credit agreement arranged in 2005. This new senior credit agreement provides increased bonding capacity and financial flexibility at a significantly lower cost when compared to the prior senior credit agreement. The new senior credit agreement permits us to utilize the facility by issuing letters of credit up to $350,000. A portion of the letters of credit issued under the new senior credit agreement have performance pricing that is decreased (or increased) as a result of certain improvements (or deteriorations) in the credit rating of the new senior credit agreement as reported by Moody’s and/or Standard & Poors. We also have the option to use up to $100,000 of the $350,000 for revolving borrowings at a rate equal to LIBOR plus 2%, subject also to the performance pricing noted above. However, we have no current plans to borrow on the revolver. There is also a $10,000 sub-limit for swingline loans, which permits borrowings on short notice. We paid approximately $5,500 in fees and expenses in conjunction with the execution of the new senior credit agreement in the fourth quarter of 2006. We also paid a prepayment fee of approximately $5,000 in October 2006 in conjunction with the early termination of our previous senior credit agreement.
The assets and/or stock of certain of our domestic and foreign subsidiaries collateralize our obligations under the new senior credit agreement. The new senior credit agreement contains various customary restrictive covenants that generally limit our ability to, among other things, incur additional indebtedness or guarantees, create liens or other encumbrances on property, sell or transfer certain property and thereafter rent or lease such property for substantially the same purposes as the property sold or transferred, enter into a merger or similar transaction, make investments, declare dividends or make other restricted payments, enter into agreement’s with affiliates that are not on an arms’ length basis, enter into any agreement that limits our ability to create liens or the ability of a subsidiary to pay dividends, engage in any new lines of business, with respect to Foster Wheeler Ltd., change Foster Wheeler Ltd.’s fiscal year or, with respect to Foster Wheeler Ltd. and one of our holding company subsidiaries, directly acquire ownership of the operating assets used to conduct any business.
In addition, the new senior credit agreement contains financial covenants requiring us not to exceed a maximum total leverage ratio, which compares total indebtedness, as defined in the senior credit agreement, to EBITDA, as defined in the senior credit agreement, and to maintain a minimum interest coverage ratio, which compares EBITDA, as defined in the senior credit agreement, to interest expense, as defined in the senior credit agreement. The agreement also limits the aggregate amount of capital expenditures in any single fiscal year to $40,000, subject to certain exceptions. We must be in compliance with the total leverage ratio at all times, but the interest coverage ratio is measured quarterly. We are in compliance with all financial covenants and other provisions of the new senior credit agreement.
In April 2006, we consummated the exchange of 1,277,900 of our common shares for $50,000 of outstanding aggregate principal amount of our 2011 senior notes. Under the terms of the exchange, the participating holders received 25.558 common shares for each thousand dollars of aggregate principal amount of 2011 senior notes, including accrued and unpaid interest, exchanged. In addition, we called for redemption of the remaining amount of 2011 senior notes and trust preferred securities. In May 2006, we redeemed the remaining $61,500 of outstanding aggregate principal amount of our 2011 senior notes and the remaining $6,000 of outstanding aggregate principal amount of our trust preferred securities. In June 2006, we executed an open market purchase of $1,000 of outstanding aggregate principal amount of our convertible notes. These debt reduction initiatives reduced the carrying amount of our debt by $122,100, reduced the amount of accrued interest by $4,900, improved consolidated shareholders’ equity/(deficit) by $46,500 and reduced our cash on hand by $79,800. The improvement in consolidated shareholders’ equity/(deficit) reflects the issuance of new common share equity of $58,800 offset by a charge to income of $12,300. The charge to income, which was recorded in the second quarter of 2006, reflects a loss of $8,200 on the 2011 senior notes exchange resulting primarily from the difference between the fair market value of the common shares issued and the carrying value of the 2011 senior notes exchanged, a loss of $3,900 on the 2011 senior notes redemption resulting primarily from a make-whole premium payment, and a loss of $200 on the trust preferred securities and convertible notes redemptions resulting primarily from the write-off of deferred charges.
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In April 2006, we also completed the purchase of the remaining 51% interest in MF Power S.r.L., a special purpose joint venture that was 49% owned by us prior to the acquisition. We now own 100% of the equity interest of MF Power S.r.L., which was renamed FW Power S.r.L. immediately following the acquisition. FW Power S.r.L. is dedicated to the development, construction and operation of electric power generating wind farm projects in Italy. In accordance with the terms of the purchase agreement, we are required to pay a purchase price of €16,400, of which €12,600 (approximately $15,200 at the exchange rate in effect at the time of payment) was paid at closing and €3,800 (approximately $4,800 at the current exchange rate) is due upon start of construction of one of the three wind farms being developed by FW Power S.r.L. The purchase price is also subject to adjustments based on receipt by FW Power S.r.L. of additional grants from the Italian government and we are expecting to make an additional payment of €3,100 (approximately $4,000 at the current exchange rate). FW Power S.r.L. had €26,200 (approximately $31,700 at the exchange rate in effect at closing) of non-recourse project debt at closing and €16,700 (approximately $20,300 at the exchange rate in effect at closing) of cash as of the closing date.
In January 2006, we completed transactions which increased the number of common shares to be delivered upon the exercise of our Class A and Class B common share purchase warrants during the offer period and raised $75,300 in net proceeds. The exercise price per warrant was not increased in the offers. Holders of approximately 95% of the Class A warrants and 57% of the Class B warrants participated in the offers resulting in the aggregate issuance of approximately 8,403,500 common shares. As described above, we used the warrant proceeds to redeem the remaining amounts of our 2011 senior notes and trust preferred securities.
Outlook
Our weekly liquidity forecasts cover, among other analyses, existing cash balances, cash flows from operations, cash repatriations from non-U.S. subsidiaries, working capital needs, unused credit line availability and claims recoveries and proceeds from asset sales, if any. These forecasts extend over a twelve-month period and continue to indicate that sufficient liquidity will be available throughout such period without having to utilize the revolving portion of the new senior credit facility.
It is customary in the industries in which we operate to provide standby letters of credit, bank guarantees or performance bonds in favor of clients to secure obligations under contracts. We are required in certain circumstances to provide security to banks and the surety to obtain new standby letters of credit, bank guarantees and performance bonds. Certain of our European subsidiaries are required to and have cash collateralized $7,200 and $15,600 of their bonding requirements as of September 29, 2006 and December 30, 2005, respectively.
Our domestic operating entities do not generate sufficient cash flow to cover the costs related to our obligations to fund U.S. pension plans, asbestos-related liabilities and corporate overhead expenses. Consequently, we require cash repatriations from our non-U.S. subsidiaries in the normal course of our operations to meet our domestic cash needs and have successfully repatriated cash for many years. Our current 2006 forecast assumes total cash repatriation from our non-U.S. subsidiaries of approximately $101,800 from royalties, management fees, intercompany loans, debt service on intercompany loans and/or dividends. We repatriated $82,400 and $86,100 from our non-U.S. subsidiaries in the first nine months of 2006 and 2005, respectively.
Our non-U.S. subsidiaries need to keep certain amounts available for working capital purposes, to pay known liabilities and for other general corporate purposes. In addition, certain of our non-U.S. subsidiaries are subject to statutory requirements in their jurisdictions of organization that restrict the amount of funds that such subsidiaries may distribute. These factors limit our ability to repatriate funds held by certain of our non-U.S. subsidiaries. However, we believe we could repatriate additional cash from certain other of our foreign subsidiaries should we desire and also have access to the domestic revolving credit facility.
We have funded $30,200 of the asbestos liability indemnity payments and defense costs from our cash flow in the first nine months of 2006, net of the cash received from insurance settlements. We are expecting net positive cash inflows of approximately $38,000 in the fourth quarter of 2006 from our asbestos management program. The estimated positive fourth quarter of 2006 net cash inflow represents the excess of our estimated cash receipts from existing insurance settlements over our estimated indemnity payments and defense costs. For all of 2006, we forecast a net cash inflow of approximately $7,800 from our asbestos management program. This estimate assumes no additional settlements with insurance companies or elections by us to fund additional payments.
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Asbestos trust fund legislation has been proposed in the U.S. Senate. This proposed legislation, should it become law in its original form, would alter our forecast payment obligations, and we would not receive any payments for future costs under our settlement agreements that could be used by us for contributions to the trust fund. Under the form of the legislation reintroduced in the Senate in May 2006, our annual contributions to a national trust fund over 30 years in lieu of any other liability for asbestos claims would be limited so that we would contribute no more than the lesser of 5% of our annual adjusted cash flow, subject to certain aggregate caps and minimums, or $19,250. We have supported this modification to the legislation. If the legislation were not enacted prior to the end of the current Congressional session, it would need to be reintroduced as a new bill in the next Congress in order to be considered.
In the third quarter of 2006, we successfully restructured a contract with a U.S. government agency. The contract was being invoiced on a fixed price basis and is now being invoiced on a cost reimbursable plus fixed fee basis. The restructuring resolved all pending requests for equitable adjustment, or REAs, which were previously assumed in our June 30, 2006 condensed consolidated financial statements and we collected $13,500 in September 2006.
We maintain several defined benefit pension plans in the United States, United Kingdom, and Canada. Funding requirements for these plans are dependent, in part, on the performance of global capital markets and the discount rates used to calculate the present value of the liability. The poor performance of the global capital markets in the past and low interest rates significantly increased the funding requirements for these plans. The non-U.S. plans are funded from the local operating cash flows while funding for the U.S. plans is included within our U.S. working capital requirements. Our U.S. pension plans are frozen and our U.K. plans are closed to new entrants. The funding requirements for our U.S. and foreign pension plans will approximate $22,900 and $28,100, respectively, in 2006. See Note 5 to the condensed consolidated financial statements in this Form 10-Q for additional information on our pension plans.
Please refer to Note 4 to the condensed consolidated financial statements in this Form 10-Q for further information regarding our debt obligations.
We have not declared or paid a common share dividend since July 2001. We were prohibited from paying dividends under our two prior senior credit agreements. Our current credit agreement also contains limitations on the payment of dividends.
Capital Structure
We have the following common shares and common share equivalents as of November 1, 2006:
| | Units | | Common Share
Equivalents | |
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Common shares outstanding | | 68,689,408 | | 68,689,408 | |
Convertible preferred shares outstanding | | 3,671 | | 239,080 | |
Stock options outstanding | | 2,388,153 | | 2,388,153 | |
Class A common share purchase warrants outstanding | | 208,618 | | 351,334 | |
Class B common share purchase warrants outstanding | | 14,701,982 | | 1,062,953 | |
Restricted stock units outstanding | | 339,314 | | 339,314 | |
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Common shares and common share equivalents outstanding | | | | 73,070,242 | |
Common shares available for issuance | | | | 74,931,479 | |
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Authorized common shares | | | | 148,001,721 | |
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Off-Balance Sheet Arrangements
We own several non-controlling equity interests in power projects in Chile and Italy. Certain of the projects have third-party debt. We have also issued guarantees for the Chilean project. Please refer to Note 3 to the condensed consolidated financial statements in this Form 10-Q for further information related to these projects.
Backlog and New Orders Booked
The backlog of unfilled orders includes amounts based on signed contracts as well as agreed letters of intent, which we have determined are legally binding and likely to proceed. Although backlog represents only business that is considered likely to be performed, cancellations or scope adjustments may occur. The elapsed time from the award of a contract to completion of performance may be up to four years. The dollar amount of backlog is not necessarily indicative of our future earnings related to the performance of such work due to factors outside our control, such as changes in project schedules or project cancellations. We cannot predict with certainty the portion of backlog to be performed in a given year. Backlog is adjusted quarterly to reflect project cancellations, deferrals, revised project scope and cost, and sale of subsidiaries, if any.
Backlog measured in Foster Wheeler scope reflects the dollar value of backlog excluding third-party costs incurred by us on a reimbursable basis as agent or principal (i.e., flow-through costs). Foster Wheeler scope measures the component of backlog with mark-up and corresponds to our services plus fees for reimbursable contracts, and total selling price for lump-sum contracts.
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| | September 29, 2006 | | September 30, 2005 | |
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E&C
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Power
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E&C
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Power
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NEW ORDERS BY PROJECT LOCATION: | | | | | | | | | | | | | | | | | | | |
Third quarter: | | | | | | | | | | | | | | | | | | | |
North America | | $ | 142,200 | | $ | 119,600 | | $ | 261,800 | | $ | 9,700 | | $ | 144,200 | | $ | 153,900 | |
South America | | | 1,300 | | | 33,500 | | | 34,800 | | | 84,800 | | | 3,600 | | | 88,400 | |
Europe | | | 349,700 | | | 53,100 | | | 402,800 | | | 215,200 | | | 128,100 | | | 343,300 | |
Asia | | | 1,088,300 | | | 39,900 | | | 1,128,200 | | | 86,600 | | | 14,100 | | | 100,700 | |
Middle East | | | 99,800 | | | — | | | 99,800 | | | 249,000 | | | — | | | 249,000 | |
Australasia and other | | | 66,800 | | | 1,900 | | | 68,700 | | | 6,900 | | | — | | | 6,900 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 1,748,100 | | $ | 248,000 | | $ | 1,996,100 | | $ | 652,200 | | $ | 290,000 | | $ | 942,200 | |
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|
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|
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| | | | | | | | | | | | | | | | | | | |
Year-to-date: | | | | | | | | | | | | | | | | | | | |
North America | | $ | 279,400 | | $ | 648,700 | | $ | 928,100 | | $ | 41,100 | | $ | 381,600 | | $ | 422,700 | |
South America | | | 11,700 | | | 80,500 | | | 92,200 | | | 106,900 | | | 9,000 | | | 115,900 | |
Europe | | | 615,800 | | | 235,800 | | | 851,600 | | | 463,200 | | | 252,200 | | | 715,400 | |
Asia | | | 1,276,000 | | | 84,600 | | | 1,360,600 | | | 151,400 | | | 33,100 | | | 184,500 | |
Middle East | | | 1,011,600 | | | 1,300 | | | 1,012,900 | | | 438,500 | | | 4,700 | | | 443,200 | |
Australasia and other | | | 275,700 | | | 2,900 | | | 278,600 | | | 962,500 | | | 700 | | | 963,200 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 3,470,200 | | $ | 1,053,800 | | $ | 4,524,000 | | $ | 2,163,600 | | $ | 681,300 | | $ | 2,844,900 | |
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|
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|
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|
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| | | | | | | | | | | | | | | | | | | |
NEW ORDERS BY INDUSTRY: | | | | | | | | | | | | | | | | | | | |
Third quarter: | | | | | | | | | | | | | | | | | | | |
Power generation | | $ | 90,600 | | $ | 218,300 | | $ | 308,900 | | $ | 148,600 | | $ | 260,600 | | $ | 409,200 | |
Oil refining | | | 822,100 | | | — | | | 822,100 | | | 202,600 | | | — | | | 202,600 | |
Pharmaceutical | | | 35,800 | | | — | | | 35,800 | | | 29,600 | | | — | | | 29,600 | |
Oil and gas | | | 166,200 | | | — | | | 166,200 | | | 201,200 | | | — | | | 201,200 | |
Chemical/petrochemical | | | 562,300 | | | — | | | 562,300 | | | 131,700 | | | — | | | 131,700 | |
Power plant operation | | | — | | | 29,700 | | | 29,700 | | | — | | | 29,400 | | | 29,400 | |
Environmental | | | 81,500 | | | — | | | 81,500 | | | (3,300 | ) | | — | | | (3,300 | ) |
Eliminations and others | | | (10,400 | ) | | — | | | (10,400 | ) | | (58,200 | ) | | — | | | (58,200 | ) |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 1,748,100 | | $ | 248,000 | | $ | 1,996,100 | | $ | 652,200 | | $ | 290,000 | | $ | 942,200 | |
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|
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|
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| | | | | | | | | | | | | | | | | | | |
Year-to-date: | | | | | | | | | | | | | | | | | | | |
Power generation | | $ | 93,200 | | $ | 972,300 | | $ | 1,065,500 | | $ | 236,100 | | $ | 597,900 | | $ | 834,000 | |
Oil refining | | | 1,294,900 | | | — | | | 1,294,900 | | | 395,800 | | | — | | | 395,800 | |
Pharmaceutical | | | 84,800 | | | — | | | 84,800 | | | 55,500 | | | — | | | 55,500 | |
Oil and gas | | | 425,700 | | | — | | | 425,700 | | | 1,267,300 | | | — | | | 1,267,300 | |
Chemical/petrochemical | | | 1,451,400 | | | — | | | 1,451,400 | | | 263,700 | | | — | | | 263,700 | |
Power plant operation | | | — | | | 81,500 | | | 81,500 | | | — | | | 83,400 | | | 83,400 | |
Environmental | | | 96,200 | | | — | | | 96,200 | | | 37,700 | | | — | | | 37,700 | |
Eliminations and others | | | 24,000 | | | — | | | 24,000 | | | (92,500 | ) | | — | | | (92,500 | ) |
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|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 3,470,200 | | $ | 1,053,800 | | $ | 4,524,000 | | $ | 2,163,600 | | $ | 681,300 | | $ | 2,844,900 | |
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| | September 29, 2006 | | September 30, 2005 | |
| |
| |
| |
| | Global
E&C
Group | | Global
Power
Group | | Total | | Global
E&C
Group | | Global
Power
Group | | Total | |
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BACKLOG (FUTURE REVENUES) BY CONTRACT TYPE: | |
Lump-sum turnkey | | $ | 246,500 | | $ | 318,500 | | $ | 565,000 | | $ | 449,000 | | $ | 15,400 | | $ | 464,400 | |
Other fixed-price | | | 493,000 | | | 880,200 | | | 1,373,200 | | | 238,100 | | | 727,900 | | | 966,000 | |
Reimbursable | | | 4,107,700 | | | 47,000 | | | 4,154,700 | | | 1,746,700 | | | 61,800 | | | 1,808,500 | |
Eliminations | | | (29,800 | ) | | 6,300 | | | (23,500 | ) | | (124,200 | ) | | (45,800 | ) | | (170,000 | ) |
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|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 4,817,400 | | $ | 1,252,000 | | $ | 6,069,400 | | $ | 2,309,600 | | $ | 759,300 | | $ | 3,068,900 | |
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BACKLOG (FUTURE REVENUES) BY PROJECT LOCATION: | |
North America | | $ | 234,300 | | $ | 638,600 | | $ | 872,900 | | $ | 84,000 | | $ | 404,200 | | $ | 488,200 | |
South America | | | 73,700 | | | 76,100 | | | 149,800 | | | 110,600 | | | 10,500 | | | 121,100 | |
Europe | | | 627,200 | | | 403,700 | | | 1,030,900 | | | 475,100 | | | 234,000 | | | 709,100 | |
Asia | | | 1,305,000 | | | 130,300 | | | 1,435,300 | | | 229,400 | | | 106,900 | | | 336,300 | |
Middle East | | | 1,663,400 | | | 800 | | | 1,664,200 | | | 454,600 | | | 3,500 | | | 458,100 | |
Australasia and other | | | 913,800 | | | 2,500 | | | 916,300 | | | 955,900 | | | 200 | | | 956,100 | |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 4,817,400 | | $ | 1,252,000 | | $ | 6,069,400 | | $ | 2,309,600 | | $ | 759,300 | | $ | 3,068,900 | |
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|
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BACKLOG (FUTURE REVENUES) BY INDUSTRY: | |
Power generation | | $ | 154,400 | | $ | 1,124,000 | | $ | 1,278,400 | | $ | 216,700 | | $ | 647,500 | | $ | 864,200 | |
Oil refining | | | 1,737,500 | | | — | | | 1,737,500 | | | 401,600 | | | — | | | 401,600 | |
Pharmaceutical | | | 138,700 | | | — | | | 138,700 | | | 147,500 | | | — | | | 147,500 | |
Oil and gas | | | 1,149,300 | | | — | | | 1,149,300 | | | 1,203,100 | | | — | | | 1,203,100 | |
Chemical/petrochemical | | | 1,539,400 | | | — | | | 1,539,400 | | | 261,200 | | | — | | | 261,200 | |
Power plant operation | | | — | | | 128,000 | | | 128,000 | | | — | | | 111,800 | | | 111,800 | |
Environmental | | | 81,400 | | | — | | | 81,400 | | | 124,200 | | | — | | | 124,200 | |
Eliminations and others | | | 16,700 | | | — | | | 16,700 | | | (44,700 | ) | | — | | | (44,700 | ) |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
Total | | $ | 4,817,400 | | $ | 1,252,000 | | $ | 6,069,400 | | $ | 2,309,600 | | $ | 759,300 | | $ | 3,068,900 | |
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| |
Foster Wheeler scope in backlog | | $ | 1,759,500 | | $ | 1,237,700 | | $ | 2,997,200 | | $ | 1,211,300 | | $ | 742,800 | | $ | 1,954,100 | |
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E&C man-hours in
backlog (in thousands) | | | 13,295 | | | | | | 13,295 | | | 8,597 | | | | | | 8,597 | |
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The overall increase in consolidated backlog as of September 29, 2006, compared to September 30, 2005, is attributable primarily to our Global E&C Group, where we have won a number of significant contracts. Our third quarter 2006 Global E&C Group awards included an engineering, procurement and construction management, or EPCm, contract for an ethylene oxide/mon-ethylene glycol plant and associated refinery modifications in Singapore; an engineering, procurement and construction, or EPC, contract for a grassroots methyl methacrylate plant in Singapore; an EPC contract for a gas facility in Saudi Arabia; and an EPC contract for a wind farm in Italy. Additionally, our Global E&C Group awards in the first six months of 2006 included contracts to perform process and detailed engineering, to supply delayed coking technology and to provide four coker heaters for a coker project in India; an EPCm contract to provide a delayed coker to a facility in the United States; an EPC contract for a cogeneration facility at a European refinery; a contract for the EPC phase of a heavy crude expansion project for a refinery in the United States; an EPC contract for the utilities and offsite work at a world-scale integrated refining and petrochemical complex in Rabigh, Saudi Arabia; an EPCm contract for a ethylene oxide/mono-ethylene glycol unit in Kuwait; and an EPC contract for safety automating services of the unheading and valve interlock systems on the delayed coking unit at a refinery in the United States.
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Our Global Power Group awards for the third quarter of 2006 included a design and supply, or D&S, contract for three boilers for plants in Europe; a D&S contract for a petcoke fired CFB boiler for a plant in South America; a D&S contract for three CFB boilers for a petrochemical facility in the People’s Republic of China; and a D&S contract for a design package for two CFB boilers for a plant in Asia. Our Global Power Group awards in the first six months of 2006 included a D&S contract for two CFB boilers for a new solid-fuel power plant in Texas; a D&S contract for a pulverized-coal boiler for a power plant in the United States; a contract to supply a CFB boiler island for a chemical plant in Bulgaria; a contract to supply new low-NOx burners and to upgrade mill classifiers at a power plant in Spain; a D&S contract to provide two CFB boilers to be used at a proposed solid-fuel generating unit at a power station in Louisiana; a D&S contract for two CFB boilers for an alumina refinery in Brazil; and a design, supply and erection contract for a peat and bio-mass-fired CFB boiler island unit for a combined heat and power plant in Finland.
Inflation
The effect of inflation on our revenues and earnings is minimal. Although a majority of our revenues are realized under long-term contracts, the selling prices of such contracts, established for deliveries in the future, generally reflect estimated costs to complete in these future periods. In addition, some contracts provide for price adjustments through escalation clauses.
Application of Critical Accounting Policies and Estimates
Our condensed consolidated financial statements are presented in accordance with accounting principles generally accepted in the United States of America. Management and the Audit Committee of the Board of Directors approve the critical accounting policies.
A full discussion of our critical accounting policies and estimates is included in our 2005 Form 10-K. The only significant change to our application of critical accounting policies and estimates is our adoption of SFAS No. 123R, “Share Based Payment,” at the start of 2006, as discussed below.
Share-Based Compensation Plans
Our share-based compensation plans include both restricted stock awards and stock option awards. Prior to December 31, 2005, we accounted for share-based employee compensation plans under the measurement and recognition provisions of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” as permitted by SFAS No. 123, “Accounting for Stock-Based Compensation.” Accordingly, we used the intrinsic value method of accounting for our stock option awards and did not recognize compensation expense for stock options that were granted at an exercise price equal to or greater than the market price of our common stock on the date of grant. As a result, the recognition of share-based compensation expense was generally limited to the expense attributed to restricted stock awards. In accordance with SFAS No. 123 and SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” we provided pro forma net income or loss and net earnings or loss per common share disclosures for each period prior to December 31, 2005, as if we had applied the fair value-based method in measuring compensation expense for our share-based compensation plans, including stock options.
Effective December 31, 2005, we adopted the fair value provisions of SFAS No. 123R, “Share-Based Payment,” using the modified prospective transition method. Under this method, we recognize share-based compensation expense for (i) all share-based payments granted prior to, but not yet vested as of, December 31, 2005, based on the grant date fair value originally estimated in accordance with the provisions of SFAS No. 123, and (ii) all future share-based payment awards based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123R. Because we elected to use the modified prospective transition method, results for prior periods have not been restated.
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Compensation cost for our share-based plans of $4,100 and $12,800 was charged against income for the three and nine months ended September 29, 2006, respectively. The related income tax benefit recognized in the condensed consolidated statement of operations and comprehensive income/(loss) was $100 and $200 for the three and nine months ended September 29, 2006, respectively. The compensation cost charged against income for the comparable periods of 2005 totaled $2,200 and $6,400 respectively. The related income tax benefit recognized in the condensed consolidated statement of operations and comprehensive income/(loss) was $100 and $300 for the three and nine months ended September 30, 2005, respectively. We received $12,300 in cash from option exercises under our share-based compensation plans for the nine months ended September 29, 2006.
As of September 29, 2006, there was $5,900 and $6,300 of total unrecognized compensation cost related to stock options and restricted awards, respectively. Those costs are expected to be recognized over a weighted-average period of approximately 29 months and 28 months, respectively.
The fair value of each option award is estimated on the date of grant using the Black-Scholes option valuation model, which incorporates assumptions regarding a number of complex and subjective variables. We then recognize the fair value of each option as compensation cost ratably using the straight-line attribution method over the service period (generally the vesting period). The Black-Scholes model incorporates the following assumptions:
| • | Expected volatility – we estimate the volatility of our common stock at the date of grant using historical volatility adjusted for periods of unusual stock price activity. |
| • | Expected term – we estimate the expected term of options granted based on a combination of vesting schedules, life of the option and estimates of future exercise behavior patterns. |
| • | Risk-free interest rate – we estimate the risk-free interest rate using the U.S. Treasury yield curve for periods equal to the expected life of the options in effect at the time of grant. |
| • | Dividends – we use an expected dividend yield of zero because we have not declared or paid a dividend since July 2001. |
| • | Forfeitures – we estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. We use a combination of historical data, demographic characteristics and other factors to estimate pre-vesting option forfeitures and record share-based compensation expense only for those awards that are expected to vest. For purposes of calculating pro forma information under SFAS No. 123 for periods prior to December 31, 2005, we accounted for forfeitures as they occurred. The cumulative effect adjustment related to forfeitures upon adoption of SFAS No. 123R was immaterial. |
If factors change and we employ different assumptions in the application of SFAS No. 123R in future periods, the compensation expense that we record under SFAS No. 123R for future awards may differ significantly from what we have recorded in the current period. There is a high degree of subjectivity involved in selecting the option pricing model assumptions used to estimate share-based compensation expense under SFAS No. 123R. Option pricing models were developed for use in estimating the value of traded options that have no vesting or hedging restrictions, are fully transferable and do not cause dilution. Because our share-based payments have characteristics significantly different from those of freely traded options, and because changes in the subjective input assumptions can materially affect our estimates of fair values, existing valuation models may not provide reliable measures of the fair values of our share-based compensation. Consequently, there is a risk that our estimates of the fair values of our share-based compensation awards on the grant dates may bear little resemblance to the actual values realized upon the exercise, expiration or forfeiture of those share-based payments in the future. Stock options may expire worthless or otherwise result in zero intrinsic value as compared to the fair values originally estimated on the grant date and reported in our financial statements. Alternatively, value may be realized from these instruments that is significantly in excess of the fair values originally estimated on the grant date and reported in our financial statements.
There are significant differences among valuation models. This may result in a lack of comparability with other companies that use different models, methods and assumptions. There is also a possibility that we will adopt different valuation models in the future. This may result in a lack of consistency in future periods and may materially affect the fair value estimate of share-based payments.
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Accounting Developments
In February 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 155, “Accounting for Certain Hybrid Instruments,” which amends SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” and SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.” SFAS No. 155 allows financial instruments that have embedded derivatives to be accounted for as a whole (eliminating the need to bifurcate the derivative from its host) if the holder elects to account for the whole instrument on a fair value basis. SFAS No. 155 also clarifies and amends certain other provisions of SFAS No. 133 and SFAS No. 140. SFAS No. 155 is effective for all financial instruments acquired or issued in fiscal years beginning after September 15, 2006. We do not expect our adoption of this new standard to have a material impact on our financial position, results of operations or cash flows.
In July 2006, the FASB issued FASB Interpretation No. (“FIN”) 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109.” FIN 48 clarifies the accounting for uncertainty in tax positions and requires that we recognize in our financial statements, the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for fiscal years beginning after December 15, 2006, with the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. We have developed and are currently implementing a plan to recognize the impact on our financial statements of adopting FIN 48.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.” SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS No. 157 is effective for all financial statements issued for fiscal years beginning after November 15, 2007. We do not expect our adoption of this new standard to have a material impact on our financial position, results of operations or cash flows.
In September 2006, the Securities and Exchange Commission (“SEC”) staff issued Staff Accounting Bulletin (“SAB”) No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB No. 108 was issued in order to eliminate the diversity of practice surrounding how public companies quantify financial statement misstatements. Traditionally, there have been two widely-recognized methods for quantifying the effects of financial statement misstatements: the “roll-over” method and the “iron-curtain” method. The roll-over method focuses primarily on the impact of a misstatement on the income statement, including the reversing effect of prior year misstatements, but its use can lead to the accumulation of misstatements in the balance sheet. The iron-curtain method, on the other hand, focuses primarily on the effect of correcting the period-end balance sheet with less emphasis on the reversing effects of prior year errors on the income statement. In SAB No. 108, the SEC staff established an approach that requires quantification of financial statement misstatements based on the effects of the misstatements on each of the company’s financial statements and the related financial statement disclosures. This model is commonly referred to as a “dual approach” because it requires quantification of errors under both the roll-over and the iron-curtain methods. SAB No. 108 is effective for all annual financial statements covering the first fiscal year ending after November 15, 2006. We do not expect our adoption of this new standard to have an impact on our financial position, results of operations or cash flows.
In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132(R).” SFAS No. 158 requires us to recognize the funded status of our defined benefit pension and other postretirement benefit plans on our condensed consolidated balance sheet. SFAS No. 158 also requires us to recognize any gains or losses that arise during the period, which are not recognized as a component of net periodic benefit cost, as a component of other comprehensive income, net of tax. Additionally, SFAS No. 158 requires additional disclosures about certain effects on net periodic benefit cost for the next financial year. SFAS No. 158 is effective for fiscal years ending after December 15, 2006. We are currently evaluating the impact on our financial statements of adopting SFAS No. 158. However, based on the funded status of our defined benefit pension and other postretirement benefit plans as of December 30, 2005 (our most recent measurement date), we would be required to increase our liability for pension and postretirement benefits by approximately $88,900, increase our deferred income tax assets by approximately $36,200 and reduce our shareholders’ equity by approximately $52,700. This estimate will vary from the actual impact of implementing SFAS No. 158 since the ultimate amounts recorded are highly dependent on a number of assumptions, including the discount rates in effect at December 29, 2006, the actual rate of return on our pension assets for fiscal year 2006 and the tax effects of the adjustment.
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Safe Harbor Statement
This management’s discussion and analysis of financial condition and results of operations, other sections of this quarterly report on Form 10-Q and other reports and oral statements made by Foster Wheeler representatives from time to time may contain forward-looking statements that are based on our assumptions, expectations and projections about Foster Wheeler and the various industries within which we operate. These include statements regarding our expectation about revenues (including as expressed by our backlog), our liquidity, the outcome of litigation and legal proceedings and recoveries from customers for claims, and the costs of current and future asbestos claims and the amount and timing of related insurance recoveries. Such forward-looking statements by their nature involve a degree of risk and uncertainty. We caution that a variety of factors, including but not limited to the factors described under Part II, Item 1A. “Risk Factors” and the following, could cause business conditions and results to differ materially from what is contained in forward-looking statements:
| • | changes in the rate of economic growth in the United States and other major international economies; |
| • | changes in investment by the power, oil and gas, pharmaceutical and chemical/petrochemical industries; |
| • | changes in the financial condition of our customers; |
| • | changes in regulatory environment; |
| • | changes in project design or schedules; |
| • | changes in our estimates of costs to complete projects; |
| • | changes in trade, monetary and fiscal policies worldwide; |
| • | war and/or terrorist attacks on facilities either owned or where equipment or services are or may be provided; |
| • | outcomes of pending and future litigation, including litigation regarding our liability for damages and insurance coverage for asbestos exposure; |
| • | protection and validity of our patents and other intellectual property rights; |
| • | increasing competition by foreign and domestic companies; |
| • | compliance with our debt covenants; |
| • | recoverability of claims against our customers and others by us and claims by third parties against us; and |
| • | changes in estimates used in our critical accounting policies. |
Other factors and assumptions not identified above were also involved in the formation of these forward-looking statements and the failure of such other assumptions to be realized, as well as other factors, may also cause actual results to differ materially from those projected. Most of these factors are difficult to predict accurately and are generally beyond our control. You should consider the areas of risk described above in connection with any forward-looking statements that may be made by us.
We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any additional disclosures we make in proxy statements, quarterly reports on Form 10-Q, annual reports on Form 10-K and current reports on Form 8-K filed with the Securities and Exchange Commission.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in the market risks described in our Annual Report on Form 10-K for the year ended December 30, 2005.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
We maintain disclosure controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives and we necessarily are required to apply our judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As of the end of the period covered by this report, our chief executive officer and our chief financial officer carried out an evaluation, with the participation of our Disclosure Committee and management, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) pursuant to Exchange Act Rule 13a-15. Based on this evaluation, our chief executive officer and our chief financial officer concluded, at the reasonable assurance level, that our disclosure controls and procedures were effective as of the end of the period covered by this report.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting in the quarter ended September 29, 2006 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Refer to Note 12 to the condensed consolidated financial statements in this Form 10-Q for a discussion of legal proceedings, which is incorporated by reference in this Part II.
ITEM 1A. RISK FACTORS
Risk Factors Relating to Our Business
Our business is subject to a number of risks and uncertainties, including those described below. If any of these events occur, our business could be harmed and the trading price of our securities could decline. The following discussion of risks relating to our business should be read carefully in connection with evaluating our business, prospects and the forward-looking statements contained in this report on Form 10-Q. For additional information regarding forward-looking statements, see Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Safe Harbor Statement.”
We require cash repatriations from our non-U.S. subsidiaries to meet our domestic cash needs related to our U.S. pension plans, asbestos-related liabilities and corporate overhead expenses. Our ability to repatriate funds from our non-U.S. subsidiaries is limited by a number of factors.
As of September 29, 2006, we had cash, cash equivalents, short-term investments and restricted cash of $509,700, of which $372,500 was held by our non-U.S. subsidiaries. Our current 2006 forecast assumes total cash repatriation from our non-U.S. subsidiaries of $101,800 from royalties, management fees, intercompany loans, debt service on intercompany loans and/or dividends. There can be no assurance that the forecasted foreign cash repatriation will occur as our non-U.S. subsidiaries need to keep certain amounts available for working capital purposes, to pay known liabilities, to comply with covenants and for other general corporate purposes. The repatriation of funds may also subject those funds to taxation.
Our international operations involve risks that may limit or disrupt operations, limit repatriation of cash, increase foreign taxation or otherwise have a material adverse effect on our business, financial condition, results of operations and cash flow.
We have substantial international operations that are conducted through foreign and domestic subsidiaries, as well as through agreements with foreign joint venture partners. Our international operations accounted for approximately 76% of our operating revenues and substantially all of our operating cash flow for the first nine months of 2006. We have international operations in Europe, Asia, Africa and South America. Additionally, we purchase materials and equipment on a worldwide basis. Our foreign operations are subject to risks that could materially adversely affect our business, financial condition, results of operations and cash flow, including:
| • | uncertain political, legal and economic environments; |
| • | potential incompatibility with foreign joint venture partners; |
| • | foreign currency controls and fluctuations; |
| • | energy prices and availability; |
| • | the imposition of additional governmental controls and regulations; |
| • | war and civil disturbances; and |
Because of these risks, our international operations may be limited, or disrupted; we may lose contract rights; our foreign taxation may be increased; or we may be limited in repatriating earnings. In addition, in some cases, applicable law and joint venture or other agreements may provide that each joint venture partner is jointly and severally liable for all liabilities of the venture. These potential events and liabilities could have a material adverse effect on our business, financial condition, results of operations and cash flow.
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Certain of our various debt agreements impose financial covenants, which may prevent us from capitalizing on business opportunities and taking certain corporate actions, which could materially adversely affect our business, financial condition, results of operations and cash flow.
Our new senior credit agreement imposes financial covenants on us. These covenants limit our ability to incur indebtedness, pay dividends or make other distributions, make investments and sell assets. Failure to comply with these covenants may allow lenders to elect to accelerate the repayment dates under this debt. We may not be able to repay such obligations if accelerated. Our failure to repay such obligations under our new senior credit agreement and our other debt obligations would have a material adverse effect on our business, financial condition, results of operations and cash flow and result in defaults under the terms of our other indebtedness.
We face limitations on our ability to obtain new letters of credit and bank guarantees on the same terms as we have historically. If we were unable to obtain letters of credit and bank guarantees on reasonable terms, our business, financial condition, results of operations and cash flow would be materially adversely affected.
It is customary in the industries in which we operate to provide letters of credit and bank guarantees in favor of clients to secure obligations under contracts. We may not be able to continue obtaining new letters of credit and bank guarantees in sufficient quantities to match our business requirements. If our financial condition deteriorates, we may also be required to provide cash collateral or other security to maintain existing letters of credit and bank guarantees. If this occurs, our ability to perform under existing contracts may be adversely affected and our business, financial condition, results of operations and cash flow could be materially adversely affected.
Our current and future lump-sum or fixed-price contracts and other shared risk contracts may result in significant losses if costs are greater than anticipated.
Some of our contracts are lump-sum contracts and other shared-risk contracts that are inherently risky because we agree to the selling price of the project at the time we enter into the contracts. The selling price is based on estimates of the ultimate cost of the contract and we assume substantially all of the risks associated with completing the project, as well as the post-completion warranty obligations.
We assume the project’s technical risk and associated warranty obligations, meaning that we must tailor products and systems to satisfy the technical requirements of a project even though, at the time the project is awarded, we may not have previously produced such a product or system. We also assume the risks related to revenue, cost and gross profit realized on such contracts that can vary, sometimes substantially, from the original projections due to changes in a variety of other factors, including but not limited to:
| • | unanticipated technical problems with the equipment being supplied or developed by us, which may require that we spend our own money to remedy the problem; |
| • | changes in the costs of components, materials or labor; |
| • | difficulties in obtaining required governmental permits or approvals; |
| • | changes in local laws and regulations; |
| • | changes in local labor conditions; |
| • | project modifications creating unanticipated costs; |
| • | delays caused by local weather conditions; and |
| • | our suppliers’ or subcontractors’ failure to perform. |
These risks are exacerbated, as most projects are long-term that result in increased risk that the circumstances upon which we based our original bid will change in a manner that increases our costs. In addition, we sometimes bear the risk of delays caused by unexpected conditions or events. Long-term, fixed-price projects often make us subject to penalties if portions of the project are not completed in accordance with agreed-upon time limits. Therefore, significant losses can result from performing large, long-term projects on a lump-sum basis. These losses may be material, including in some cases up to or slightly exceeding the full contract value in certain events of non-performance, and could negatively impact our business, financial condition, results of operations and cash flow.
We may increase the size and number of lump-sum turnkey contracts, sometimes in countries where we have limited previous experience.
We may bid for and enter into such contracts through partnerships or joint ventures with third parties that have greater bonding capacity than we do. This would increase our ability to bid for the contracts. Entering into these partnerships or joint ventures will expose us to credit and performance risks of those third-party partners, which could have a negative impact on our business and our results of operations if these parties fail to perform under the arrangements.
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We also perform government contracts containing fixed labor rates that are subject to audit by governmental agencies. These audits can occur several years after completion of the project and could result in claims for reimbursement from us. These reimbursement amounts could be materially different than estimated, which could have a negative impact on our results of operations and cash flow.
We may have high working capital requirements in the near term and we may have difficulty obtaining financing, which could have a negative impact on our business, financial condition, results of operations and cash flow.
Our business requires a significant amount of working capital. In some cases, significant amounts of working capital are required to finance the purchase of materials and performance of engineering, construction and other work on projects before payment is received from customers. In some cases, we are contractually obligated to our customers to fund working capital on our projects. In addition, we are subject to risks associated with debt financing. Future increases in working capital requirements could have a material adverse effect on our business, financial condition, results of operations and cash flow.
Projects included in our backlog may be delayed or cancelled, which could materially adversely affect our financial condition, results of operations and cash flow.
The dollar amount of backlog does not necessarily indicate future earnings related to the performance of that work. Backlog refers to expected future revenues under signed contracts and legally binding letters of intent that we have determined are likely to be performed. Backlog projects represent only business that is considered firm, although cancellations or scope adjustments may occur. Because of changes in project scope and schedule, we cannot predict with certainty when or if backlog will be performed. In addition, even where a project proceeds as scheduled, it is possible that contracted parties may default and fail to pay amounts owed to us. Material delays, cancellations or payment defaults could materially adversely affect our financial condition, results of operations and cash flow.
The number and cost of our current and future asbestos claims in the United States could be substantially higher than we have estimated and the timing of payment of claims could be sooner than we have estimated, which could materially adversely affect our financial condition, results of operations and cash flow.
Some of our subsidiaries are named as defendants in numerous lawsuits and out-of-court administrative claims pending in the United States in which the plaintiffs claim damages for alleged bodily injury or death arising from exposure to asbestos in connection with work performed, or heat exchange devices assembled, installed and/or sold, by our subsidiaries. We expect these subsidiaries to be named as defendants in similar suits and claims brought in the future. For purposes of our financial statements, we have estimated the indemnity and defense costs to be incurred in resolving pending and forecasted domestic claims through year-end 2020. Although we believe our estimates are reasonable, the actual number of future claims brought against us and the cost of resolving these claims could be substantially higher than our estimates. Some of the factors that may result in the costs of these claims being higher than our current estimates include:
| • | the rate at which new claims are filed; |
| • | the number of new claimants; |
| • | changes in the mix of diseases alleged to be suffered by the claimants, such as type of cancer, asbestosis or other illness; |
| • | increases in legal fees or other defense costs associated with these claims; |
| • | increases in indemnity payments; |
| • | decreases in the proportion of claims dismissed with zero indemnity payments; |
| • | indemnity payments being required to be made sooner than expected; |
| • | bankruptcies of other asbestos defendants, causing a reduction in the number of available solvent defendants and thereby increasing the number of claims and the size of demands against our subsidiaries; |
| • | adverse jury verdicts requiring us to pay damages in amounts greater than we expect to pay in settlement; |
| • | changes in legislative or judicial standards that make successful defense of claims against our subsidiaries more difficult; or |
| • | enactment of legislation requiring us to contribute amounts to a national settlement trust in excess of our expected net liability, after insurance, in the tort system. |
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The total liability recorded on our balance sheet is based on estimated indemnity and defense costs expected to be incurred through year-end 2020. We believe that it is likely that there will be new claims filed after 2020, but in light of uncertainties inherent in long-term forecasts, we do not believe that we can reasonably estimate at this time the indemnity and defense costs that might be incurred after 2020. Our forecast contemplates that the number of new claims requiring indemnity will decline from year to year. Failure of future claims to decline as we expect may result in our aggregate liability for asbestos claims being higher than estimated.
Since year-end 2004, we have worked with Analysis Research Planning Corporation (“ARPC”), nationally recognized consultants in projecting asbestos liabilities, to estimate the amount of asbestos-related indemnity and defense costs for the following 15-year period. ARPC reviews our asbestos indemnity payments, defense costs and claims activity during the previous year and compares them to our 15-year forecast prepared at the previous year-end. Our September 29, 2006 estimated liability reflected a reduction of our year-end 2005 estimated liability for payments and settlements made during the nine months ended September 29, 2006.
Our forecast of the number of future claims is based, in part, on a regression model, which employs the statistical analysis of our historical claims data to generate a trend line for future claims and, in part, on an analysis of future disease incidence. Although we believe this forecast method is reasonable, other forecast methods that attempt to estimate the population of living persons who could claim they were exposed to asbestos at worksites where our subsidiaries performed work or sold equipment, could also be used and might project higher numbers of future claims than our forecast.
The actual number of future claims, the mix of disease types and the amounts of indemnity and defense costs may exceed our current estimates. We annually update our forecasts to take into consideration recent claims experience and other developments, such as legislation, that may affect our estimates of future asbestos-related costs. The announcement of increases to asbestos liabilities as a result of revised forecasts, adverse jury verdicts or other negative developments involving asbestos litigation or insurance recoveries may cause the value or trading prices of our securities to decrease significantly. These negative developments could also negatively impact our liquidity, cause us to default under covenants in our indebtedness, cause our credit ratings to be downgraded, restrict our access to capital markets or otherwise have a material adverse effect on our financial condition, results of operations and cash flow.
The amount and timing of insurance recoveries of our asbestos-related costs in the United States is uncertain. The failure to obtain insurance recoveries could cause a material adverse effect on our financial condition, results of operations and cash flow.
We believe that a significant portion of our subsidiaries’ liability and defense costs for asbestos claims will be covered by insurance. Since year-end 2005, we have worked with Peterson Risk Consulting, nationally recognized experts in the estimation of insurance recoveries, to review our estimate of the value of the unsettled insurance asset and assist in the estimation of our primary and unsettled asbestos insurance asset. Based on insurance policy data, historical claim data, future liability estimate, and allocation methodology assumptions we provided them, Peterson Risk Consulting provided an analysis of the unsettled insurance asset as of year-end 2005. We utilized that analysis to determine our estimate of the value of the unsettled insurance asset.
The asset recorded on our condensed consolidated balance sheet represents our best estimate of actual and probable insurance recoveries relating to our domestic liability for pending and estimated future asbestos claims through year-end 2020. The asset includes an estimate of recoveries from unsettled insurers in the insurance litigation discussed below, based upon assumptions relating to cost allocation, the application of New Jersey law to certain insurance coverage issues, and other factors as well as an estimate of the amount of recoveries under existing settlements with other insurers. On February 13, 2001, litigation was commenced against certain of our subsidiaries by certain of our insurers seeking to recover from other insurers amounts previously paid by them and to adjudicate their rights and responsibilities under our subsidiaries’ insurance policies. As of September 29, 2006, we estimated the value of our asbestos insurance asset contested by our subsidiaries’ insurers in ongoing litigation as $29,500. While this litigation is pending, we have had to cover a substantial portion of our settlement payments and defense costs out of our cash flow.
Our subsidiaries have entered into several settlement agreements calling for certain insurers to make lump-sum payments, as well as payments over time, for use by our subsidiaries to fund asbestos-related indemnity and defense costs and, in certain cases, for reimbursement for portions of out-of-pocket costs previously incurred. We have entered into several additional settlements in 2006 and we intend to continue to attempt to negotiate additional settlements where achievable on a reasonable basis in order to minimize the amount of future costs that we would be required to fund out of the cash flow generated from our operations. Unless we settle the remaining unsettled insurance recoveries available, at amounts significantly in excess of our current estimates, it is likely that the amount of our insurance settlements will not cover all future asbestos-related costs and we will continue to fund a portion of such future costs, which will reduce our cash flow and our working capital.
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An adverse outcome in the pending insurance litigation described above could limit our remaining insurance recoveries. However, a favorable outcome in all or part of the litigation could increase remaining insurance recoveries above our current estimate.
Even if the coverage litigation is resolved in a manner favorable to us our insurance recoveries (both from the litigation and from settlements) may be limited by insolvencies among our insurers. We have not assumed recovery in the estimate of our asbestos insurance recovery asset from any of our currently insolvent insurers. Other insurers may become insolvent in the future and our insurers also may fail to reimburse amounts owed to us on a timely basis. Failure to realize expected insurance recoveries, or delays in receiving material amounts from our insurers could have a material adverse effect on our financial condition and our cash flow.
Proposed national asbestos trust fund legislation could require us to pay amounts in excess of current estimates of our net asbestos liability, which could adversely affect our financial condition, results of operations and long-term cash flow.
Although no federal legislation has been enacted by the United States Congress, a bill entitled Fairness in Asbestos Injury Resolution Act of 2005, may become law. This bill was reported out of the Senate Judiciary Committee and was brought to the Senate floor in February 2006, but was defeated on a procedural issue without a vote on the merits. Because we have been named as a defendant in a significant number of asbestos-related bodily injury claims we would be a “defendant participant” in a proposed national trust fund should such enabling legislation become law. If this proposed legislation is enacted into law in its original form, substantially all current and future asbestos claims will be removed from the tort system and claimants’ exclusive remedy will be payment from a national trust fund. This proposed legislation, should it become law in its original form, would alter our forecast payment obligations, and we would not receive any payments for future costs under our settlement agreements that could be used by us for contributions to the trust fund. Under the form of the legislation reintroduced in the Senate in May 2006, our annual contributions to a national trust fund over 30 years in lieu of any other liability for asbestos claims would be limited so that we would contribute no more than the lesser of 5% of our annual adjusted cash flow, subject to certain aggregate caps and minimums, or $19,250. If not enacted prior to the end of the current Congressional session, any such legislation would need to be reintroduced in the next Congress in order to be considered.
The number of asbestos-related claims received by our subsidiaries in the United Kingdom has recently increased. To date, these claims have been covered by insurance policies and proceeds from the policies have been paid directly to the plaintiffs. The timing and amount of asbestos claims that may be made in the future, the financial solvency of the insurers, and the amount that may be paid to resolve the claims, are uncertain. The insurance carriers’ failure to make payments due under the policies could have a material adverse effect on our financial condition, results of operations and cash flow.
Some of our subsidiaries in the United Kingdom have received claims alleging personal injury arising from exposure to asbestos in connection with work performed, or heat exchange devices assembled, installed and/or sold, by our subsidiaries. We expect these subsidiaries to be named as defendants in additional suits and claims brought in the future. To date, insurance policies have provided coverage for substantially all of the costs incurred in connection with resolving asbestos claims in the United Kingdom. Our ability to continue to recover under these insurance policies is dependent upon, among other things, the timing and amount of asbestos claims that may be made in the future, the financial solvency of our insurers, and the amount that may be paid to resolve the claims. These factors could significantly limit insurance recoveries, which could have a material adverse effect on our financial condition, results of operations and cash flows.
Failure by us to successfully defend against claims made against us by project owners or by our project subcontractors, or failure by us to recover adequately on claims made against project owners, could have a material adverse effect upon our financial condition, results of operations and cash flow.
In the ordinary course of business, claims involving project owners and subcontractors are brought against us and by us in connection with our project contracts. Claims brought against us include back charges for alleged defective or incomplete work, breaches of warranty and/or late completion of the project work, and claims for canceled projects. The claims and back charges can involve actual damages, as well as contractually agreed upon liquidated sums. If we were found to be liable on any of the project claims against us, we would have to incur a write-down or charge against earnings, to the extent a reserve had not been established for the matter in our accounts. Claims brought by us against project owners include claims for additional costs incurred in excess of current contract provisions arising out of project delays and changes in the initial scope of work. Claims between us and our subcontractors and vendors include claims like any of those described above. These project claims, if not resolved through negotiation, are often subject to lengthy and expensive litigation or arbitration proceedings. Charges and write-downs associated with claims brought against us and by us could have a material adverse impact on our financial condition, results of operations and cash flow.
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Because our operations are concentrated in four particular industries, we may be adversely impacted by economic or other developments in these industries.
We derive a significant amount of revenues from services provided to corporations that are concentrated in four industries: power, oil and gas, chemical/petrochemical and pharmaceuticals. Unfavorable economic or other developments in one or more of these industries could adversely affect our clients and could have a material adverse effect on our financial condition, results of operations and cash flow.
We may lose business to competitors who have greater financial resources.
We are engaged in highly competitive businesses in which customer contracts are often awarded through bidding processes based on price and the acceptance of certain risks. We compete with other general and specialty contractors, both foreign and domestic, including large international contractors and small local contractors. Some competitors have greater financial and other resources than we do. Because financial strength is a factor in deciding whether to grant a contract, our competitors’ greater financial strength may give them a competitive advantage and could prevent us from obtaining contracts for which we have bid.
A failure by us to attract and retain qualified personnel, joint venture partners, advisors and subcontractors could have an adverse effect on our business, financial condition, results of operations and cash flow.
Our ability to attract and retain qualified engineers and other professional personnel, as well as joint venture partners, advisors and subcontractors, will be an important factor in determining our future success. The market for these professionals, joint venture partners, advisors and subcontractors is competitive, and we may not be successful in efforts to attract and retain these professionals, joint venture partners, advisors and subcontractors. Failure to attract or retain these workers could have a material adverse effect on our business, financial condition, results of operations and cash flow.
We are subject to various environmental laws and regulations in the countries in which we operate. If we fail to comply with these laws and regulations, we may have to incur significant costs and penalties that could adversely affect our financial condition, results of operations and cash flow.
Our operations are subject to U.S., European and other laws and regulations governing the generation, management, and use of regulated materials, the discharge of materials into the environment, the remediation of environmental contamination, or otherwise relating to environmental protection. Both our Global E&C Group and Global Power Group make use of and produce as wastes or byproducts substances that are considered to be hazardous under these environmental laws and regulations. We may be subject to liabilities for environmental contamination as an owner or operator of a facility or as a generator of hazardous substances without regard to negligence or fault, and we are subject to additional liabilities if we do not comply with applicable laws regulating such hazardous substances, and, in either case, such liabilities can be substantial.
These laws and regulations could expose us to liability arising out of the conduct of current and past operations or conditions, including those associated with formerly owned or operated properties caused by us or others, or for acts by us or others which were in compliance with all applicable laws at the time the acts were performed. In some cases, we have assumed contractual indemnification obligations for environmental liabilities associated with some formerly owned properties. Additionally, we may be subject to claims alleging personal injury, property damage or natural resource damages as a result of alleged exposure to or contamination by hazardous substances. The ongoing costs of complying with existing environmental laws and regulations can be substantial. Changes in the environmental laws and regulations, remediation obligations, enforcement actions or claims for damages to persons, property, natural resources or the environment, could result in material costs and liabilities.
You should read Note 12 to the condensed consolidated financial statements in this Form 10-Q for a summary of our material environmental proceedings and litigation.
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We rely on our information systems in our operations. Failure to protect these systems against security breaches could adversely affect our business and results of operations. Additionally, if these systems fail or become unavailable for any significant period of time, our business could be harmed.
The efficient operation of our business is dependent on computer hardware and software systems. Information systems are vulnerable to security breaches by computer hackers and cyber terrorists. We rely on industry accepted security measures and technology to securely maintain confidential and proprietary information maintained on our information systems. However, these measures and technology may not always be adequate to properly prevent security breaches.
In addition, the unavailability of the information systems or the failure of these systems to perform as anticipated for any reason could disrupt our business and could result in decreased performance and increased overhead costs, causing our business and results of operations to suffer.
Any significant interruption or failure of our information systems or any significant breach of security could adversely affect our business and results of operations.
We may lose market share to our competitors and be unable to operate our business profitably if our patents and other intellectual property rights do not adequately protect our proprietary products.
Our success depends significantly on our ability to protect our intellectual property rights to the technologies and know-how used in our proprietary products. We rely on patent protection, as well as a combination of trade secret, unfair competition and similar laws and nondisclosure, confidentiality and other contractual restrictions to protect our proprietary technology. However, these legal means afford only limited protection and may not adequately protect our rights or permit us to gain or keep any competitive advantage. We also rely on unpatented proprietary technology. We cannot provide assurance that we can meaningfully protect all our rights in our unpatented proprietary technology or that others will not independently develop substantially equivalent proprietary products or processes or otherwise gain access to our unpatented proprietary technology. We also hold licenses from third parties that are necessary to utilize certain technologies used in the design and manufacturing of some of our products. The loss of such licenses would prevent us from manufacturing and selling these products, which could harm our business.
We have anti-takeover provisions in our bye-laws that may discourage a change of control.
Our bye-laws contain provisions that could make it more difficult for a third-party to acquire us without the consent of our board of directors. These provisions provide for:
| • | The board of directors to be divided into three classes serving staggered three-year terms. Directors can be removed from office only for cause, by the affirmative vote of the holders of two-thirds of the issued shares generally entitled to vote. The board of directors does not have the power to remove directors. Vacancies on the board of directors may only be filled by the remaining directors. Each of these provisions can delay a shareholder from obtaining majority representation on the board of directors. |
| • | Any amendment to the bye-law limiting the removal of directors to be approved by the board of directors and the affirmative vote of the holders of three quarters of the issued shares entitled to vote at general meetings. |
| • | The board of directors to consist of not less than three nor more than 20 persons, the exact number to be set from time to time by a majority of the whole board of directors. Accordingly, the board of directors, and not the shareholders, has the authority to determine the number of directors and could delay any shareholder from obtaining majority representation on the board of directors by enlarging the board of directors and filling the new vacancies with its own nominees until a general meeting at which directors are to be appointed. |
| • | Restrictions on the time period in which directors may be nominated. A shareholder notice to nominate an individual for election as a director must be received no less than 120 calendar days prior to the anniversary of the date on which Foster Wheeler Ltd. first mailed its proxy materials for the preceding year’s annual meeting. |
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| • | Restrictions on the time period in which shareholder proposals may be submitted. To be timely for inclusion in Foster Wheeler Ltd.’s proxy statement, a shareholder’s notice for a shareholder proposal must be received not less than 120 days prior to the first anniversary of the date on which Foster Wheeler Ltd. first mailed its proxy materials for the preceding year’s annual general meeting. To be timely for consideration at the annual meeting of shareholders, a shareholder’s notice must be received no less than 45 days prior to the anniversary of the date on which Foster Wheeler Ltd. first mailed its proxy materials for the preceding year’s annual meeting. |
| • | The board of directors to determine the powers, preferences and rights of preference shares and to issue the preference shares without shareholder approval. The board of directors could authorize the issuance of preference shares with terms and conditions that could discourage a takeover or other transaction that holders of some or a majority of the common shares might believe to be in their best interests or in which holders might receive a premium for their shares over the then market price of the shares. |
| • | A general prohibition on “business combinations” between Foster Wheeler Ltd. and an “interested member.” Specifically, “business combinations” between an interested member and Foster Wheeler Ltd. are prohibited for a period of five years after the time the interested member acquires 20% or more of the outstanding voting shares, unless the business combination or the transaction resulting in the person becoming an interested member is approved by the board of directors prior to the date the interested member acquires 20% or more of the outstanding voting shares. |
“Business combinations” is defined broadly to include amalgamations or consolidations with Foster Wheeler Ltd. or its subsidiaries, sales or other dispositions of assets having an aggregate value of 10% or more of the aggregate market value of the consolidated assets, aggregate market value of all outstanding shares, consolidated earning power or consolidated net income of Foster Wheeler Ltd., adoption of a plan or proposal for liquidation and most transactions that would increase the interested member’s proportionate share ownership in Foster Wheeler Ltd.
“Interested member” is defined as a person who, together with any affiliates and/or associates of that person, beneficially owns, directly or indirectly, 20% or more of the issued voting shares of Foster Wheeler Ltd.
| • | Any matter submitted to the shareholders at a meeting called on the requisition of shareholders holding not less than one-tenth of the paid-up voting shares of Foster Wheeler Ltd. to be approved by the affirmative vote of all of the shares eligible to vote at such meeting. |
These provisions could make it more difficult for a third-party to acquire us, even if the third-party’s offer may be considered beneficial by many shareholders. As a result, shareholders may be limited in their ability to obtain a premium for their shares.
We are a Bermuda company and it may be difficult for you to enforce judgments against us or our directors and executive officers.
Foster Wheeler Ltd. is a Bermuda exempted company. As a result, the rights of shareholders will be governed by Bermuda law and our memorandum of association and bye-laws. The rights of shareholders under Bermuda law may differ from the rights of shareholders of companies incorporated in other jurisdictions. A substantial portion of our assets are located outside the United States. It may be difficult for investors to enforce in the United States judgments obtained in U.S. courts against us or our directors based on the civil liability provisions of the U.S. securities laws. Uncertainty exists as to whether courts in Bermuda will enforce judgments obtained in other jurisdictions, including the United States, under the securities laws of those jurisdictions or entertain actions in Bermuda under the securities laws of other jurisdictions.
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Our bye-laws restrict shareholders from bringing legal action against our officers and directors.
Our bye-laws contain a broad waiver by our shareholders of any claim or right of action, both individually and on our behalf, against any of our officers or directors. The waiver applies to any action taken by an officer or director, or the failure of an officer or director to take any action, in the performance of his or her duties, except with respect to any matter involving any fraud or dishonesty on the part of the officer or director. This waiver limits the right of shareholders to assert claims against our officers and directors unless the act or failure to act involves fraud or dishonesty.
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ITEM 6. EXHIBITS
Exhibit No. | | Exhibits |
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3.1 | | Memorandum of Association of Foster Wheeler Ltd. (Filed as Annex II to Foster Wheeler Ltd.’s Form S-4/A (File No. 333-52468) filed on March 9, 2001, and incorporated herein by reference.) |
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3.2 | | Memoranda of Reduction of Share Capital and Memorandum of Increase in Share Capital each dated December 1, 2004. (Filed as Exhibit 99.2 to Foster Wheeler Ltd.’s Form 8-K, dated November 29, 2004 and filed on December 2, 2004, and incorporated herein by reference.) |
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3.3 | | Certificate of Designation relating to Foster Wheeler Ltd.’s Series B Convertible Preferred Shares, adopted on September 24, 2004. (Filed as Exhibit 3.1 to Foster Wheeler Ltd.’s Form 10-Q for the quarter ended September 24, 2004, and incorporated herein by reference.) |
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3.4 | | Bye-Laws of Foster Wheeler Ltd., amended May 9, 2006. (Filed as Exhibit 3.2 to Foster Wheeler Ltd.’s Form 8-K, dated May 9, 2006 and filed on May 12, 2006, and incorporated herein by reference.) |
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10.1 | | Employment Agreement between Foster Wheeler Ltd. and Raymond J. Milchovich, dated as of August 11, 2006. (Filed as Exhibit 10.1 to Foster Wheeler Ltd.’s Form 8-K, dated August 7, 2006 and filed on August 11, 2006, and incorporated herein by reference.) |
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10.2 | | Employee’s Restricted Stock Award Agreement of Raymond J. Milchovich, dated as of August 11, 2006. (Filed as Exhibit 10.2 to Foster Wheeler Ltd.’s Form 8-K, dated August 7, 2006 and filed on August 11, 2006, and incorporated herein by reference.) |
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10.3 | | Employee Nonqualified Stock Option Agreement of Raymond J. Milchovich, dated as of August 11, 2006. (Filed as Exhibit 10.3 to Foster Wheeler Ltd.’s Form 8-K, dated August 7, 2006 and filed on August 11, 2006, and incorporated herein by reference.) |
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10.4 | | Credit Agreement dated September 13, 2006 among Foster Wheeler LLC, Foster Wheeler USA Corporation, Foster Wheeler North America Corp., Foster Wheeler Energy Corporation, Foster Wheeler International Corporation, and Foster Wheeler Inc., as Borrowers, the guarantors party thereto, the lenders party thereto, BNP Paribas as Administrative Agent, BNP Paribas Securities Corp. as Sole Bookrunner and Sole Lead Arranger, and Calyon New York Branch as Syndication Agent. (Filed as Exhibit 99.1 to Foster Wheeler Ltd.’s Form 8-K, dated September 13, 2006 and filed on September 14, 2006, and incorporated herein by reference.) |
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31.1 | | Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of Raymond J. Milchovich |
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31.2 | | Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 of John T. La Duc |
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32.1 | | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of Raymond J. Milchovich |
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32.2 | | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of John T. La Duc |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
| | FOSTER WHEELER LTD. |
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| | (Registrant) |
Date: November 8, 2006 | /s/ RAYMOND J. MILCHOVICH |
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| RAYMOND J. MILCHOVICH
CHAIRMAN, PRESIDENT AND CHIEF EXECUTIVE OFFICER |
Date: November 8, 2006 | /s/ JOHN T. LA DUC |
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| JOHN T. LA DUC
EXECUTIVE VICE PRESIDENT AND CHIEF FINANCIAL OFFICER |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF