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Halliburton may sell problematic KBR

Published Aug. 28, 2005

When Halliburton was awarded contracts worth more than $12-billion for work in Iraq, critics said that the company was using its political connections to reap big profits. But now, in a sign that those contracts are not providing the boon executives had expected from a subsidiary weighed down by other problems, Halliburton said Thursday that it was considering a sale of the business.

The unit, KBR, which provides military and oil field services, has been plagued by disappointing losses, investigations into its activities in Nigeria and Iran as well as sizable asbestos claims. Making matters worse, KBR's work in Iraq has not been as profitable as other activities and has contributed to a public relations nightmare for its parent. All of this has happened while KBR is seeking to emerge from bankruptcy protection.

The announcement by Halliburton, the nation's largest energy services company, indicated that KBR's problems have kept a lid on Halliburton's stock price and hindered its ambitions to benefit from elevated oil prices.

In a meeting here with investors, Halliburton's chief executive, David J. Lesar, said the company had become part of a "vicious campaign" of political attacks ahead of this year's presidential election. Lesar has lamented Halliburton's prominence as a target for critics of the Bush administration's handling of the war in Iraq, and repeated some of those concerns on Thursday.

Controversy is nothing new for the company that was run by Vice President Dick Cheney for five years until 2000. KBR has long been associated with the coziness of politics and business in the oil industry in Texas and has become a symbol of the reach of American energy conglomerates into many politically unsavory areas around the world. Halliburton acquired Brown and Root, the corporate ancestor of KBR, in 1962.

Still, Halliburton has been unable to avoid becoming a lightning rod for complaints about American corporations profiting from the war in Iraq since it became known in March 2003 that it had been awarded the largest contracts in that country. Lesar, in a sign of the exasperation of Halliburton's management with such criticism, said that the company's employees "don't deserve to have their jobs threatened for political gain."

Earlier this month, Halliburton said that it might reduce its activities in Iraq after it became apparent that the Army was planning to split up its largest Iraq contract, effectively dividing more than $12 billion of work among several companies. Halliburton has repeatedly had to respond to accusations that KBR overcharged the Department of Defense for some of its services.

Among Halliburton's most pressing concerns are investigations by French, American, and Nigerian officials into KBR's role in a payments scheme for its work on a liquid natural gas project in Nigeria in the 1990s when Cheney was Halliburton's chief executive.

The Department of Justice is also investigating Halliburton's activities in Iran, where it operates through a loophole allowing it to remain there despite American sanctions limiting business in that country.

"All of the issues and attention and criticism of Halliburton has been on the KBR side," said Michael Urban, an analyst at Deutsche Bank who listened to Lesar's comments in Houston. "That's probably why the market values KBR at about zero and why it should go. It's about time."

The company said it would separate KBR through a sale, spinoff or initial public offering, options that might allow Halliburton to retain some degree of control over KBR. Any eventual separation would depend on whether the unit continued to lag behind its peers in stock price assessments, the company said.

In the second quarter, KBR reported an operating loss of $277-million compared with a loss of $148- million a year earlier on revenue of $3.1-billion. Halliburton's other main line of business, the Energy Services Group, posted operating income in that quarter of $271-million, up from $36-million a year earlier, on revenue of $1.9-billion. Analysts say KBR has dragged down the shares of its parent. As recently as 2000, Halliburton's shares traded in the $50s, while Thursday, shares climbed 18 cents, to close at $32.24, after investors reacted to Lesar's comments.

Separating KBR from Halliburton has been advocated by many of the company's investors for some time. The profits margins for KBR's work in Iraq are significantly lower than those at other parts of Halliburton. KBR's liabilities from asbestos claims, a legacy of a deal overseen by Cheney when he led the company, have also weighed on Halliburton's stock price. Earlier this year, Halliburton won court approval of an asbestos settlement plan that would allow KBR to emerge from bankruptcy protection.

Investors have also grown uncomfortable with cost overruns at a project for Brazil's national oil company that contributed to more than $600 million of losses earlier this year.

Then there is the continued criticism of Halliburton's connections to Cheney and its work in Iraq, which have led some investors to stay away from the company. "There's a negative perception politically of KBR, whether it's deserved or not," said Gary Russell, an analyst in Denver with Stifel Nicolaus, a brokerage firm. "It would be beneficial to divest it, because the market these days rewards pure-plays over diversified conglomerates."

Indeed, Halliburton's corporate complexity, as well as its connections in Washington, have come at a cost. When Pentagon officials first decided in 2002 to secretly give the company's KBR unit the job of rebuilding Iraq's oil industry, they say they realized their decision would likely become a political liability. "Everyone realized the selection of KBR was going to look bad, so the idea was to compete it out as quickly as possible," said one official involved in the selection.

When word of the no-bid contract surfaced a few days after the March 2003 invasion, Democrats in Congress quickly criticized the deal and pushed for a new contract. Eventually the oil contract was rebid and KBR was awarded one of the two contracts. That did not stop the criticism: Cheney's ties to the company and Halliburton's work in Iraq have been a staple of campaign commercial by Democratic hopeful John Kerry and his allies. At least 45 of Halliburton's employees and contractors have died in Iraq in the last year.

The company's higher profile also led to more scrutiny by the media. Halliburton's accounting practices on contracts were the focus of an inquiry by the Securities and Exchange Commission. Earlier this year the company settled the case, neither admitting nor denying wrongdoing, but agreeing to pay $7.5-million.

By shedding KBR, Halliburton could focus more on activities like finding, drilling and producing oil that are considered more valuable as energy companies try to seize on climbing energy prices.

Halliburton also said Thursday that it was seeking to cut as much as $100-million in costs at KBR, but declined to provide details on whether any job cuts at the unit were planned.