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BWC > SEC Filings for BWC > Form 10-Q on 7-Nov-2012All Recent SEC Filings

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Form 10-Q for BABCOCK & WILCOX CO


7-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS

The following information should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included under Item 1 and the audited consolidated and combined financial statements and the related notes and Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in our annual report on Form 10-K for the year ended December 31, 2011 (our "2011 10-K").

In this quarterly report on Form 10-Q, unless the context otherwise indicates, "we," "us" and "our" mean The Babcock & Wilcox Company ("B&W") and its consolidated subsidiaries.

We are including the following discussion to inform our existing and potential security holders generally of some of the risks and uncertainties that can affect our company and to avail ourselves of the "safe harbor" protection for forward-looking statements provided by federal securities law, including
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act").


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From time to time, our management or persons acting on our behalf make forward-looking statements to inform existing and potential security holders about our company. These statements may include projections and estimates concerning the timing and success of specific projects and our future backlog, revenues, income and capital spending. Forward-looking statements are generally accompanied by words such as "estimate," "project," "predict," "believe," "expect," "anticipate," "plan," "goal" or other words that convey the uncertainty of future events or outcomes. In addition, sometimes we will specifically describe a statement as being a forward-looking statement and refer to this cautionary statement.

These forward looking statements include, but are not limited to, statements that relate to, or statements that are subject to risks, contingencies or uncertainties that relate to:

our business strategy;

future levels of revenues (including our backlog to the extent it may be viewed as an indicator of future revenues), operating margins, income from operations, net income or earnings per share;

anticipated levels of demand for our products and services;

future levels of capital, environmental or maintenance expenditures;

our beliefs regarding the timing and effects on our businesses of certain environmental legislation, rules or regulations;

the success or timing of completion of ongoing or anticipated capital or maintenance projects;

expectations regarding the acquisition or divestiture of assets and businesses;

our ability to obtain and maintain contract security capacity including surety bonds, bank guarantees and letters of credit;

our ability to maintain appropriate insurance and indemnities;

the potential effects of judicial or other proceedings on our business or businesses, financial condition, results of operations and cash flows; and

the anticipated effects of actions of third parties such as competitors, or federal, foreign, state or local regulatory authorities, or plaintiffs in litigation.

the timing and recognition of unrecognized tax benefits

effective date and expected impact of accounting pronouncements

our plans regarding the design, research and development, and deployment of the B&W mPowerTM reactor

In addition, various statements in this quarterly report on Form 10-Q, including those that express a belief, expectation or intention, as well as those that are not statements of historical fact, are forward-looking statements.

These forward-looking statements speak only as of the date of this report; we disclaim any obligation to update these statements unless required by securities law, and we caution you not to rely on them unduly. We have based these forward-looking statements on our current expectations and assumptions about future events. While our management considers these expectations and assumptions to be reasonable, they are inherently subject to significant business, economic, competitive, regulatory and other risks, contingencies and uncertainties, most of which are difficult to predict and many of which are beyond our control. These risks, contingencies and uncertainties relate to, among other matters, the following:

general economic and business conditions and industry trends;

general developments in the industries in which we are involved;

decisions on spending by the U.S. Government and electric power generating companies;

the highly competitive nature of our businesses;

cancellations of and adjustments to backlog and the resulting impact from using backlog as an indicator of future earnings;

our ability to perform projects on time, in accordance with the schedules established by the applicable contracts with customers;

the ability of our suppliers to deliver raw materials in sufficient quantities and in a timely manner;

volatility and uncertainty of the credit markets;

our ability to comply with covenants in our credit agreements and other debt instruments and availability, terms and deployment of capital;

the impact of our unfunded pension liabilities on liquidity, and our ability to fund such liabilities in the future, including our ability to continue being reimbursed by the U.S. Government for a portion of our pension funding obligations, which is contingent on maintaining our government contracts;

the continued availability of qualified personnel;


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the operating risks normally incident to our lines of business, including the potential impact of liquidated damages;

changes in, or our failure or inability to comply with, government regulations;

adverse outcomes from legal and regulatory proceedings;

impact of potential regional, national and/or global requirements to significantly limit or reduce greenhouse gas emissions in the future;

our ability to successfully manage research and development projects, including our efforts to develop the small modular nuclear power plant based on B&W mPowerTM technology;

impact of potential regulatory and industry response affecting the timing and cost of future nuclear development as a result of the damage caused by the March 11, 2011 earthquakes and tsunami on certain of Japan's nuclear facilities;

changes in, and liabilities relating to, existing or future environmental regulatory matters;

rapid technological changes;

the realization of deferred tax assets;

the consequences of significant changes in interest rates and currency exchange rates;

a determination by the IRS that the spin-off or certain transactions should be treated as a taxable transaction;

our ability to maintain our capital structure, including our access to capital, credit ratings, debt and ability to raise additional financing;

difficulties we may encounter in obtaining regulatory or other necessary approvals of any strategic transactions;

the risks associated with integrating businesses we acquire;

our ability to realize adequate returns and related dividends on our investments in unconsolidated affiliates;

our ability to maintain operational support for our information systems against service outages and data corruption, as well as protection against cyber-based network security breaches and theft of data;

social, political and economic situations in foreign countries where we do business;

the possibilities of war, other armed conflicts or terrorist attacks;

the effects of asserted and unasserted claims;

our ability to maintain surety bonds, letters of credit and financing;

our ability to maintain builder's risk, liability, property and other insurance in amounts and on terms we consider adequate and at rates that we consider economical;

our ability to successfully develop competitive new technologies and products;

the aggregated risks retained in our captive insurance subsidiary; and

the impact of the loss of insurance rights as part of the Chapter 11 Bankruptcy settlement concluded in 2006 involving several of our subsidiaries.

We believe the items we have outlined above are important factors that could cause estimates in our financial statements to differ materially from actual results and those expressed in a forward-looking statement made in this report or elsewhere by us or on our behalf. We have discussed many of these factors in more detail elsewhere in this report, in Item 1A of this report and in our 2011 10-K. These factors are not necessarily all the factors that could affect us. Unpredictable or unanticipated factors we have not discussed in this report could also have material adverse effects on actual results of matters that are the subject of our forward-looking statements. We do not intend to update our description of important factors each time a potential important factor arises, except as required by applicable securities laws and regulations. We advise our security holders that they should (1) be aware that factors not referred to above could affect the accuracy of our forward-looking statements and (2) use caution and common sense when considering our forward-looking statements.

GENERAL

We operate in four segments: Power Generation, Nuclear Operations, Technical Services and Nuclear Energy.

Business Segments

In general, we operate in capital-intensive industries and rely on large contracts for a substantial amount of our revenues. We are currently exploring growth strategies across our segments through acquisitions to expand and complement our existing businesses. As we pursue these opportunities, we expect they would be funded by cash on hand, external financing (including debt), equity or some combination thereof.


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Power Generation Segment

Our Power Generation segment's overall activity depends mainly on the capital expenditures of electric power generating companies and other steam-using industries. Several factors influence these expenditures, including:

prices for electricity, along with the cost of production and distribution;

prices for coal and natural gas and other sources used to produce electricity;

demand for electricity, paper and other end products of steam-generating facilities;

availability of other sources of electricity, paper or other end products;

requirements for environmental improvements;

impact of potential regional, state, national and/or global requirements to significantly limit or reduce greenhouse gas emissions in the future;

level of capacity utilization at operating power plants, paper mills and other steam-using facilities;

requirements for maintenance and upkeep at operating power plants and paper mills to comply with environmental regulations and combat the accumulated effects of wear and tear;

ability of electric generating companies and other steam users to raise capital; and

relative prices of fuels used in boilers, compared to prices for fuels used in gas turbines and other alternative forms of generation.

Our Power Generation segment plans to expand into international markets through acquisitions and partnering arrangements.

Nuclear Operations Segment

The revenues of our Nuclear Operations segment are largely a function of defense spending by the U.S. Government. As a supplier of major nuclear components for certain U.S. Government programs, this segment is a significant participant in the defense industry.

Technical Services Segment

The revenues and equity in income of investees of our Technical Services segment are largely a function of spending by the U.S. Government, and the performance scores we and our joint venture partners earn in managing and operating high-consequence operations at U.S. nuclear weapons sites and national laboratories. With its specialized capabilities of full life-cycle management of special nuclear materials, facilities and technologies, our Technical Services segment participates in the cleanup, operation and management of the nuclear sites and weapons complexes maintained by the U.S. Department of Energy ("DOE").

Nuclear Energy Segment

Our Nuclear Energy segment's overall activity depends mainly on the demand and competitiveness of nuclear energy. This segment is actively developing the B&W mPowerTM reactor and its activity is also a function of research and development efforts for the B&W mPowerTM reactor and the potential revenues to be generated from the B&W mPowerTM initiative. As part of this initiative, the Nuclear Energy segment has applied for funding from the DOE under its Small Modular Reactor Licensing Technical Support Program ("Funding Program"), which provides financial assistance for small modular reactor designs demonstrating, among other things, the ability to support a commercial operating date for a small modular reactor plant by 2022. The Nuclear Energy segment plans to meet all of the requirements of the Funding Program, including the requirement to deploy this technology by 2022.

For a summary of the critical accounting policies and estimates that we use in the preparation of our unaudited condensed consolidated financial statements, see Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2011 10-K. There have been no material changes to these policies during the nine months ended September 30, 2012.


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Outlook Update

Government Operations

In August 2011, Congress enacted the Budget Control Act of 2011, which committed the U.S. Government to significantly reducing the federal deficit over ten years. The Budget Control Act will likely constrain discretionary spending by the federal government for a number of years as it capped discretionary spending through 2021. It also established a Joint Committee of Congress to identify an additional $1.2 to $1.5 trillion in deficit reductions by November 23, 2011. The Joint Committee was unable to meet this deadline, triggering a provision, referred to as "sequestration", that calls for substantial automatic spending cuts split between defense and non-defense programs scheduled to start in January 2013 and continue over a nine-year period. Federal government spending reductions, including through sequestration, could adversely impact U.S. Government programs for which we provide products or services. There is currently no official planning guidance regarding how sequestration would be implemented, if it were to go into effect. As members of Congress and the Administration continue to discuss various options to prevent or defer sequestration, we cannot predict whether any such efforts will succeed. Additionally, while we believe many of our programs are well aligned with national defense and other strategic priorities, the outcome of efforts underway regarding sequestration is uncertain and it is possible that spending cuts may be applied to U.S. Government programs across the board, regardless of how programs align with those priorities. There are many variables in how the Budget Control Act could be implemented that will determine its specific impact; however, reductions in federal government spending and sequestration, as currently provided for under the Budget Control Act, could have a material adverse impact on the operating results and cash flows of our Nuclear Operations and Technical Services segments.

Through separate joint ventures, we manage and operate for the DOE the Y-12 National Security Complex and Pantex Plant. The management and operating contracts for these sites are currently under a re-bid through the DOE on a combined basis.

In late July 2012, the Y-12 National Security Complex in Oak Ridge, Tennessee experienced a security breach. Nuclear operations at the site were temporarily ceased for approximately two weeks in early August 2012. All operations have now resumed. The Y-12 security force had been managed by another contractor at the time of the incident. The security contract was assigned to our joint venture by the National Nuclear Security Administration ("NNSA") following the security breach. The contractor responsible for managing the security force at the time of the security breach has been terminated and our joint venture took direct responsibility for security at the Y-12 National Security Complex. Following the security breach, a number of immediate changes and security enhancements were instituted, including the removal and replacement of key leadership personnel, restoration of critical security system elements to service and refining and recalibrating of alarm system components to enhance reliability. Any consequences that may result from this event are uncertain; however, the security breach has and could continue to adversely affect the expected fees earned by our joint venture that manages and operates the site, and we can provide no assurance that the security breach will not adversely affect our current or future proposals to the DOE. These consequences could have a material adverse impact on our consolidated financial position, results of operations or cash flow.

Power Generation

The Environmental Protection Agency ("EPA") issued proposed final environmental regulations concerning Mercury and Air Toxics Standards ("MATS") and rules concerning implementation of the Cross State Air Pollution Rule ("CSAPR") in 2011. On December 30, 2011 the Federal Court of Appeals for the DC Circuit (the "Court") stayed the CSAPR rules and reinstated EPA regulations from 2005. Oral arguments were held in April of 2012. In August 2012, the Court ruled CSAPR, which set stricter limits on sulfur dioxide and nitrogen oxide emissions from power plants in 28 states, violated the Clean Air Act. The ruling leaves CSAPR's predecessor, the Clean Air Interstate Rule, in place. In October 2012, the EPA appealed the Court's decision. We believe it could take years for any regulatory response to develop in response to the Court's ruling. Due to the uncertainty created by the Court's ruling on CSPAR, we could experience delays or cancellations in contract awards in our environmental equipment businesses.

Uncertainty concerning final rules and regulations could impact our Power Generation segment. For example, instead of adding environmental equipment, some of our customers may decide to close down their least efficient coal-fired boilers. Future decisions to retire boilers would impact our business in a variety of ways, including the servicing and retrofitting of operating power plants. The need to replace retired generating capacity with cleaner technologies would also create business opportunities for us. To generate energy while minimizing the emission of greenhouse gasses, we are actively researching and developing a range of products, including:

non-carbon technologies, such as nuclear power plants and solar receivers for concentrating solar power plants;

low-carbon technologies that enable clean use of fossil fuels, such as oxy-fuel combustion and regenerable solvent absorption technologies to scrub carbon dioxide from exhaust gases; and

carbon-neutral technologies, such as biomass-fueled boilers and gasifiers, which use a renewable resource where the growing biomass re-absorbs the carbon dioxide emitted during energy production.


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Accounting for Contracts

As of September 30, 2012, in accordance with the percentage-of-completion method of accounting, we have provided for our estimated costs to complete all of our ongoing contracts. However, it is possible that current estimates could change due to unforeseen events, which could result in adjustments to overall contract costs. A principal risk on fixed-priced contracts is that revenue from the customer is insufficient to cover increases in our costs. It is possible that current estimates could materially change for various reasons, including, but not limited to, fluctuations in forecasted labor productivity or steel and other raw material prices. In some instances, we guarantee completion dates related to our projects and provide performance guarantees. Increases in costs on our fixed-price contracts could have a material adverse impact on our consolidated results of operations, financial condition and cash flows. Alternatively, reductions in overall contract costs at completion could materially improve our consolidated results of operations, financial condition and cash flows. In the nine months ended September 30, 2012, and 2011, we recognized changes in estimate related to long-term contracts accounted for on the percentage-of-completion basis which increased operating income by approximately $75.6 million and $4.0 million, respectively. In addition, in the nine months ended September 30, 2012, we recognized revenues totaling $18.4 million attributable to the settlement of a contract claim related to a condenser replacement contract in our Nuclear Energy segment. The nine months ended September 30, 2011 amount includes approximately $61.8 of cost over-runs ($50.7 million in our Nuclear Energy segment and $11.1 million in our Nuclear Operations segment), to complete certain projects attributable to changes in estimate due to productivity and scheduling issues. The project in our Nuclear Energy segment is now complete, and the projects in our Nuclear Operations segment are substantially complete.

RESULTS OF OPERATIONS - THREE MONTHS ENDED SEPTEMBER 30, 2012 VS. THREE MONTHS ENDED SEPTEMBER 30, 2011

The Babcock & Wilcox Company (Consolidated)

Revenues increased approximately 14.1%, or $100.0 million, to $807.6 million in the three months ended September 30, 2012 compared to $707.6 million for the corresponding period in 2011 due to increases in revenues from our Power Generation, Nuclear Operations and Nuclear Energy segments totaling $41.1 million, $30.1 million and $13.5 million, respectively. We also experienced a decrease in revenues in our Technical Services segment totaling $2.6 million.

Operating income increased $9.7 million to $67.3 million in the three months ended September 30, 2012 from $57.6 million for the corresponding period in 2011, due to operating income increases in our Nuclear Energy and Nuclear Operations segments totaling $18.9 million and $13.8 million, respectively. These increases were partially offset by decreases in our Technical Services and Power Generation segments totaling $9.4 million and $8.5 million, respectively. Unallocated corporate expenses increased $5.0 million.

Power Generation

Revenues increased 10.7%, or $41.1 million, to $426.4 million in the three months ended September 30, 2012, compared to $385.3 million in the corresponding period of 2011, primarily attributable to an increase in revenues of $44.7 million from our new-build environmental equipment business principally driven by ongoing engineering, procurement and construction activities on projects as a result of the new environmental rules and regulations. In addition, revenues in our new-build steam generation systems business increased $22.8 million primarily due to increased service and construction activities on waste-to-energy and biomass boiler projects. We also experienced a decrease in revenues of $21.3 million in our aftermarket services business primarily due to lower construction activities on retrofit boiler projects.

Operating income decreased $8.5 million to $30.4 million in the three months ended September 30, 2012 compared to $38.9 million in the corresponding period of 2011. Income associated with the increased revenues discussed above were offset by cost over-runs on certain engineering, procurement and construction projects and more competitive profit margins from the early market cycle environmental projects. We also experienced decreases in equity in income of investees totaling $3.7 million, primarily attributable to lower production and project activities at our joint venture in China. In addition, we experienced an impairment charge totaling $2.6 million in the three months ended September 30, 2012 attributable to the cancellation of an operations and maintenance services contract.


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Nuclear Operations

Revenues increased 11.8%, or $30.1 million, to $284.5 million in the three months ended September 30, 2012 compared to $254.4 million in the corresponding period of 2011, primarily attributable to increased activity in the manufacturing of nuclear components for U.S. Government programs totaling $32.0 million. These increases were partially offset by lower volume in our naval nuclear fuel and downblending activities as compared to the corresponding period of 2011.

Operating income increased $13.8 million to $51.9 million in the three months ended September 30, 2012 compared to $38.1 million in the corresponding period in 2011, primarily attributable to increased activity in the manufacturing of nuclear components for U.S. Government programs.

Technical Services

Revenues decreased 9.1%, or $2.6 million, to $26.0 million in the three months ended September 30, 2012 compared to $28.6 million for the corresponding period of 2011, primarily attributable to the completion of our international contract support services associated with the Fukushima event totaling $3.6 million. This decrease was partially offset by increased revenues associated with government site remediation operations.

Operating income decreased $9.4 million to $11.3 million in the three months ended September 30, 2012 compared to $20.7 million in the corresponding period of 2011, primarily attributable to increased selling, general and administrative expenses totaling $2.9 million associated with higher bid and proposal activity, and reduced income associated with the decreased revenues noted above. We also experienced a decrease in equity in income of investees totaling $4.6 million largely attributable to estimated reduced fee earned by our joint venture at the DOE's Y-12 site in Oak Ridge, Tennessee due to a security breach, and the previous sale of our interest in two joint ventures that contributed to equity in income of investees in the corresponding period in 2011.

Nuclear Energy

Revenues increased 22.0%, or $13.5 million, to $75.0 million in the three months ended September 30, 2012 compared to $61.5 million in the corresponding period of 2011, primarily attributable to increased project scope completion in our nuclear equipment business totaling $21.0 million and timing of customer outage projects in our nuclear services business totaling $5.8 million. These increases were partially offset by a $12.6 million decrease in our nuclear projects business due to lower project execution compared to the same period in the prior year.

Operating income increased $18.9 million to a loss of $18.6 million in the three months ended September 30, 2012 compared to a loss of $37.5 million in the . . .

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