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Stung by labor costs and delays related to four U.S. natural gas infrastructure projects, Chicago Bridge & Iron Co. (CB&I) reported a surprisingly large second quarter loss, which sent investors fleeing Thursday, sending the stock price tumbling almost 27%.
On the losses, and confusion about contract negotiations with Sempra Energy over the delayed start-up of the liquefied natural gas (LNG) export project set near Cameron, LA, CB&I on Thursday ended down 26.58% at $11.99/share, off $4.34 for the day on the New York Stock Exchange. It posted a 2Q2017 net loss of $425.4 million (minus $4.22/share), versus year-ago profits of $123.8 million ($1.22). Revenue plunged year/year to $1.2 billion from $2.16 billion.
Potential problems for the energy infrastructure giant were telegraphed by Sempra during the 2Q2017 conference call last Friday, when executives said start-up of Cameron LNG was being pushed to 2019 because of issues related CB&I’s handling of engineering, procurement and construction (EPC).
CB&I CEO Patrick Mullen confirmed during a conference call late Wednesday that Cameron LNG was the culprit most responsible for the losses. The former COO, who took the helm July 1, was blunt in his assessment.
“We are not satisfied with our second quarter results, which include a net loss from continuing operations of $304 million or $3.02/share,” he said. “This net loss is entirely due to charges we recorded in relation to four engineering and construction projects.”
CB&I recorded $367 million in combined charges for its two U.S. LNG projects, Cameron LNG, a joint venture (JV) with Chiyoda Corp., and Freeport LNG Development LP on the Texas coast, a JV with Chiyoda and Zachry Group.
“The majority of the charges we took in the second quarter on these two jobs are related to the Cameron LNG project, where we are working with the owner to finalize an updated schedule,” Mullen said. “As mentioned by Sempra on their earnings call last Friday, we expect the first train to complete in early 2019 with the remaining two trains following throughout that same year.:
The charges represent CB&I’s share of forecasted cost increases “and were necessary because of lower than expected labor productivity, weather-related delays, increased costs for fabrication, and craft labor subcontractor and indirect costs associated with extensions of schedule,” Mullen said.
“Some of these factors are within our control and some are not. We are working with Cameron LNG toward a finalized schedule and are also beginning to engage in discussions regarding claims for extension of time and recovery of certain costs.”
The decision to move the startup of Cameron LNG to 2019 is not set in stone, Mullen admitted.
“There is a process that we go through, where we submitted an updated schedule, the client has a chance to comment and then we eventually agree. So we're pretty close to that point of agreeing. I don't think there is a huge disconnect…. We're pretty much in agreement on that what the schedule looks like.”
The key factors for the LNG project’s costs, particularly in construction, revolve around labor and labor productivity, Mullen said. “We have significantly moderated our expectations going forward, particularly on the first train” for Cameron. CB&I expects to see “significant productivity improvements as you go from train one to train two, and from train two to train three.”
Commercial contract discussions “are commonplace for a project of this size and complexity, although it is far too early for us or Cameron LNG to speculate on any commercial outcomes around these issues. Very importantly, we are working closely with the customer to ensure that the plant is constructed as safely and efficiently as possible.”
Meanwhile, the Freeport LNG project “has experienced some elements of quantity growth and material delivery delays, which has exerted some schedule pressure on train 1 in particular,” said the CEO. “These elements are now substantially behind us, and with our construction productivity to date being largely as expected, we are proceeding aggressively and to ramp up a pipe erection and other key activities.”
CB&I also recorded $181 million in charges for two natural gas turbine power projects, the IPL Eagle Valley project in Martinsville, IN, and Calpine Corp. facility in York, PA.
“I'm sure you're as frustrated as we are to see additional charges on these projects,” Mullen said. Management said earlier this year it had captured “virtually all of the incremental costs, and that's exactly what our analysis showed. The “underlying problem here is that productivity with our direct higher union workforce on these two projects has been much lower than we expected. Our solution to that problem has been to maximize replacement of this direct-hire workforce with specialty subcontractors. That solution has already resulted in an improvement in productivity.
“However, some of these improvements were not realized quickly enough in the second quarter and even then, at levels that were somewhat below what we had forecasted.”
During the question-and-answer period with analysts, Mullen was asked for more specifics about how CB&I is going to prevent issues in the future.
“We're learning significantly from what we've been through,” he said. “Frankly, although the results we've talked about...are not pretty at all, this is something we're going to learn from and position ourselves well as an advantage going forward.”
CB&I’s Freeport and Cameron LNG projects are both “large fixed-price contracts,” the CEO said. The company still is willing to use those types of contracts, but “obviously we've learned we are not going to go out and make the same assumptions that we made at the beginning of Cameron or some of these other jobs...I don't see it has a systemic problem, but again I don't want to minimize the problems we've had these two LNG projects and power jobs…”
As is typical for the company, Mullen said CB&I is executing “hundreds of contracts across our businesses, the vast majority of which are completed successfully at attractive margins. We recognize those that it only takes a few contracts to result in the material charges that negatively impact the business significantly, and we are working very hard to eliminate these kinds of situations.”
In the weeks leading up to Mullen taking over, he said he worked with the leadership team to determine how to position CB&I for long-term growth.
“First, we're addressing our recent execution issues head-on, using them to change and improve the way we assess and monitor risks. In the pre-contract phase of a project, we have used a robust gate process for many years to evaluate various factors and risks associated with the prospects that we chose to pursue.”
The process now has been bolstered with more benchmarking analytics to past projects to more accurately determine costs and risk drivers.
To ensure CB&I has the appropriate cost structure in place, it has implemented a comprehensive corporate and operating cost reduction program to generate savings of $100 million a year, Mullen said. In addition, the board has suspended CB&I's quarterly dividend.
CB&I also plans to sell its technology business, which holds 3,000 patents and more than 100 licensed technologies. The sale also is to include the engineered products business, which specializes in equipment modularization, proprietary equipment and engineering services. Combined, the businesses have generated on average more than $200 million/year for the last several years, Mullen said.