KGHI Common Stock (CE)

PART I — FINANCIAL INFORMATION

See notes to consolidated financial statements.

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See notes to consolidated financial statements.

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KAISER GROUP HOLDINGS, INC. AND SUBSIDIARIES

Kaiser Analytical Management Services, Inc. (“KAMS”), accounted for all of the Company’s gross revenue in 2006.  Under prevailing market conditions, effective June 30, 2006, the Company determined that there were insufficient business prospects for KAMS to expect future revenues.

The Company adopted fresh start reporting in its consolidated balance sheet as of December 31, 2000. The American Institute of Certified Public Accountants’ Statement of Position 90-7, “Financial Reporting by Entities in Reorganization Under the Bankruptcy Code” (“SOP 90-7”), requires under certain circumstances resulting from a bankruptcy the creation of a new entity for financial reporting purposes upon the emergence of an entity from bankruptcy.  Accordingly, the value of the reorganized enterprise becomes the established amount for the emerging balance of shareholders’ equity, and any accumulated deficit of the predecessor entity is offset against available capital in excess of par, resulting in an emerging retained earnings of zero.  Additionally, assets and liabilities are recorded at their fair values.

The value of the emerged enterprise used for fresh start reporting as of December 31, 2000 was $87.5 million. It was determined by management with the assistance of independent advisors.  The methodology employed involved estimation of the enterprise value taking into consideration a discounted cash flow analysis.  The discounted cash flow analysis was based on a seven-year cash flow projection prepared by management, taking into consideration the terminal value of its assets and liabilities as of immediately prior to its emergence from bankruptcy on December 18, 2000.  Terminal values of assets and liabilities were determined based either on contracted amounts, actuarial present values and/or management’s estimates of the outcome of certain operating activities. Net after-tax cash flows, assuming a 40% effective tax rate, were discounted at 17% in order to take into consideration the risks and uncertainties inherent in such projections.  The cash flow projections were based on estimates and assumptions about circumstances and events that had not yet taken place.  Estimates and assumptions regarding individual retained matters which form the collective composition of the overall enterprise value as of December 18, 2000 are inherently subject to significant economic and competitive uncertainties and contingencies beyond the control of the Company.  Accordingly, there may be differences between projections and actual results because events and circumstances frequently do not occur as expected and may be significant.  More specifically, assumptions within the valuation related to the amount and timing of the ultimate performance and related cash flows of the Company’s investment in Kaiser-Hill have the greatest impact on the overall enterprise valuation.

2.             General Terms of Plan and Status of Bankruptcy Distributions

The effectiveness of the Plan of Reorganization as of December 18, 2000 did not, in and of itself, complete the bankruptcy process. The process of resolving claims initially filed in the bankruptcy is ongoing.

By far the largest class of claims (“Class 4”) was made up of creditor claims other than trade creditor or equity claims.  Class 4 claims included holders of Old Kaiser’s senior subordinated notes due 2003.  Holders of Class 4 claims allowed by the Bankruptcy Court received a combination of cash and Company preferred (“New Preferred”) and common stock (“Kaiser Common Stock”) in respect of their claims.  Each Class 4 claimant was entitled to receive one share of New Preferred and one share of Kaiser Common Stock for each $100 of claims, subject to a reduction in the number of shares of New Preferred issued to such claimant by one share for each $55.00 of cash received by the claimant.

Pursuant to the terms of the Plan of Reorganization, the Company was required to complete its initial bankruptcy distribution within 120 days of the Effective Date.  Accordingly, to satisfy approximately $136.8 million of allowed Class 4 claims, the Company effected its initial distribution on April 17, 2001.  The amount of unresolved Class 4 claims remaining at April 17, 2001 was approximately $130.5 million. To address the remaining unresolved claims, the Bankruptcy Court issued an order on March 27, 2001 establishing an Alternative Dispute Resolution (“ADR”) procedure whereby the remaining claimants and Old Kaiser produced limited supporting data relative to their respective positions and engaged in initial negotiation efforts in an attempt to reach an agreed claim determination.  If necessary, the parties were thereafter required to participate in a non-binding mediation before a mediator pre-selected by the Bankruptcy Court.  All unresolved claims as of March 27, 2001 are subject to the ADR process. Since April 17, 2001, the date of the initial distribution, approximately $130.3 million of asserted Class 4 claims have been withdrawn, negotiated or mediated to an agreed amount, resulting in cash payments approximating $3.0 million and issuances of 683 shares of New Preferred (all of which have been redeemed) and 823 shares of Kaiser Common Stock.  As of September 30, 2007, the aggregate amount of unresolved claims was approximately $0.2 million and is recorded as a component of other accrued expenses on the Company’s consolidated balance sheet.

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The equity class of claims recognized in the Old Kaiser bankruptcy are “Class 5” claims, consisting of holders of Old Kaiser common stock (“Old Common”) and other “Equity Interests” as defined in the Plan of Reorganization. The Plan of Reorganization provides that holders of Equity Interests receive a number of shares of Kaiser Common Stock equal to 17.65% of the number of shares of Kaiser Common Stock issued to allowed Class 4 claimants. In the initial distribution, one share of Kaiser Common Stock was issued for each 96 shares of previously outstanding Old Common.  During 2005, the Company settled a significant Class 5 claim asserted by the former stockholders of ICT Spectrum Constructors, Inc. (“ICT Spectrum”), which Old Kaiser had acquired in 1998, and issued an aggregate of 175,003 additional shares of Kaiser Common Stock to such claimants pursuant to the settlement. With the settlement of the ICT Spectrum Class 5 claim and the subsequent issuance of 175,003 shares of Kaiser Common Stock to such claimants, no Class 5 claims remain unresolved at September 30, 2007.

As of September 30, 2007, the aggregate amount of unresolved claims was approximately $0.2 million and is recorded as a component of other accrued expenses on the Company’s consolidated balance sheet.  As demonstrated by the claim settlements completed since April 17, 2001, and based on the belief that it is in the best interest of the Company and its current stockholders, the Company has been settling certain remaining Class 4 claims entirely for cash payments in lieu of the combination of cash and New Preferred and Kaiser Common Stock as contemplated in the Plan of Reorganization.  The Company intends to continue to use this settlement alternative during the resolution of remaining Class 4 claims.  The Company expects to resolve the remaining claims by the end of 2007.  Upon such final resolution, the Company expects to take the necessary steps to close the bankruptcy cases.  Upon such closing, the Bankruptcy Court would no longer be involved in the administration of the Company’s affairs, and the Company’s obligation to pay certain fees and submit periodic reports to the Bankruptcy Court would be terminated.  Since closing of the cases requires resolution of all outstanding matters and such resolution is somewhat out of the Company’s control, there is a possibility that the cases will not be closed within the anticipated time period.

3.             Earnings Per Share

Basic earnings per share (“EPS”) is computed by dividing net (loss) income by the weighted average number of common shares outstanding for the period. Diluted EPS normally includes the weighted-average effect of dilutive securities outstanding during the period.  Pursuant to the Plan of Reorganization that was effective as of December 18, 2000, all then-outstanding common stock equivalents were cancelled.  As a result, the Company has no dilutive or anti-dilutive securities outstanding.

4.             Investment in and Advances to Joint Venture

The Company’s net investment in and advances to joint venture totaled $0.8 million and $2.3 million at September 30, 2007 and December 31, 2006, respectively and consisted solely of the Company’s investment in the Kaiser-Hill.  The Company accounts for its 50% ownership in the Kaiser-Hill investment using the equity method.

On October 13, 2005, Kaiser-Hill declared physical completion of the cleanup and closure of the DOE’s Rocky Flats site.  On December 8, 2005, the DOE affirmed Kaiser-Hill’s declaration as required under the Closure Contract and the DOE authorized Kaiser-Hill to invoice all remaining performance fees less a retained amount equaling $5.0 million.  On January 11, 2006, Kaiser-Hill received payment for all fees except for the retained amount. The project total fee expected to be earned by Kaiser-Hill pursuant to the Contract is $510.9 million based on Kaiser-Hill’s cost to complete the site closure of $3.44 billion.  Through November 12, 2007, Kaiser-Hill has received $510.8 million of such fee from the DOE.

Kaiser-Hill recognized a substantial amount of fee income from the DOE upon the declaration of physical completion on October 13, 2005 and, accordingly, the Company’s proportionate share of such income was recorded in Equity Income in Earnings of Joint Venture in the Company’s consolidated statement of operations for the year ended December 31, 2005.  As a result, upon the receipt of the $80.0 million cash distribution from Kaiser-Hill on March 1, 2006, and the receipt of $5.0 million distributed from Kaiser-Hill on June 30, 2006, the Company made a corresponding reduction of $85.0 million in its investment in Kaiser-Hill on its balance sheet as of December 31, 2006. The Company received an additional distribution of $1.5 million from Kaiser-Hill on February 27, 2007, and made a corresponding reduction of $1.5 million in its investment in Kaiser-Hill on its consolidated balance sheet as of March 31, 2007.

The Closure Contract provides that Kaiser-Hill will earn revenue equal to the actual cost of physical completion plus a performance fee.  The performance fee is based on (1) Kaiser-Hill’s cost to complete the site closure, which must be within the range of $3.1 billion and $4.9 billion, (2) the schedule of physical completion, which must be before 2007 and (3) Kaiser-Hill’s safety performance.  At the time of declaration of physical completion on October 13, 2005, Kaiser-Hill’s cost estimate to complete the project remained at $3.44 billion, which resulted in a total performance fee payable to Kaiser-Hill projected to be $510.9 million.

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Since Kaiser-Hill declared physical completion, many of the performance risks have been eliminated, but contract risks and uncertainties remain. As a result of declaration of physical completion in October 2005, Kaiser-Hill recognized all remaining performance fees under the Closure Contract in 2005 and has established reserves for certain risks and uncertainties related to the Closure Contract.  Kaiser-Hill will reverse these reserves to the extent it is successful in mitigating or eliminating these remaining contract risks and uncertainties.

Under the Closure Contract, Kaiser-Hill is not responsible for, and the DOE pays all costs associated with any liability, including, without limitation, any claims involving strict or absolute liability and any civil fine or penalty, expense or remediation cost, but limited to those of a civil nature, which may be incurred by, imposed on, or asserted against Kaiser-Hill arising out of any act or failure to act, condition or exposure which occurred before Kaiser-Hill assumed responsibility on July 1, 1995 (“pre-existing conditions”). To the extent the acts or omissions of Kaiser-Hill constitute willful misconduct, lack of good faith, or failure to exercise prudent business judgment on the part of Kaiser-Hill’s managerial personnel and cause or add to any liability, expense, or remediation cost resulting from pre-existing conditions, Kaiser-Hill is responsible, but only for the incremental liability, expense or remediation caused by Kaiser-Hill.

The Closure Contract further provides that Kaiser-Hill will be reimbursed for the reasonable cost of bonds and insurance allocable to the contract and for liabilities and expenses incidental to these liabilities, including litigation costs, to third parties not compensated by insurance or otherwise. There is an exception to this reimbursement provision applicable to liabilities caused by the willful misconduct, lack of good faith or failure to exercise prudent business judgment by Kaiser-Hill’s managerial personnel.

Kaiser-Hill now operates under the closeout phase of its Closure Contract with the DOE, primarily resolving the administrative issues and providing support to the DOE to achieve regulatory closure of the site.  The closeout phase of the Closure Contract is a cost reimbursable phase and is not fee - bearing; the Company does not expect that the closeout phase will impact fees earned. Effective December 31, 2005, Kaiser-Hill terminated its remaining employees.  Staff necessary to complete closeout activities is being subcontracted or provided by CH2M Hill Companies Ltd. (“CH2M Hill”).

5.             Investment in Affiliates

In 1997, the Company purchased a 4% ownership interest in a limited liability company (“the LLC”) that leases the land and owns the buildings where the Company’s corporate headquarters are located.  Effective October 28, 2000, the Company negotiated a settlement with the other owners of the LLC resolving various issues between the Company and the other owners.  As a part of that resolution, subject to certain contingencies and a time limit of December 31, 2012, the Company fixed the estimated amount of potential future recovery of the investment, upon sale or refinancing of the property at $2.8 million.

As a result of negotiations between the Company and the other owners of the LLC, relating to the amount of the recovery of the Company’s investment in the LLC, that took place during the third quarter of 2007, the Company reflected an impairment charge of $1.8 million during the quarter ended September 30, 2007, relating to this investment. On November 2, 2007, the Company received the sum of $1.0 million from the owners of the LLC representing the full amount of its recovery of its investment in the LLC as agreed upon between the Company and the LLC.

6.             Common Stock

The Company declared a $6.00 per common share cash dividend on December 21, 2006 payable to shareholders of record on January 2, 2007. The dividend was paid on January 16, 2007.  Any future determination to pay cash dividends will be at the discretion of our Board which determines our dividend policy based on our results of operations, capital requirements, and other factors that our Board deems relevant.

7.             Other Contingencies

The Company has various obligations and liabilities from its continuing operations, including general overhead expenses in connection with maintaining, operating and winding down the various entities and net assets comprising the Company.  Additionally, the Company believes contingent liabilities may exist in the following areas:

Nova Hut

On May 16, 2006, the Company was informed that an arbitration panel formed under the auspices of the International Chamber of Commerce (“ICC”) issued a ruling in the arbitration proceeding initiated by its subsidiary, Kaiser Netherlands B.V. (“Kaiser Netherlands”) concerning the steel mini-mill that was constructed by Kaiser Netherlands for Nova Hut, a.s. (now Mittal Steel Ostrava, a.s.) (“Nova Hut”) in Ostrava, the Czech Republic.  The decision by the arbitration panel is not

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appealable.  After calculation of claim and counter-claim award amounts as decided by the ICC arbitration panel, the net balance award against Kaiser Netherlands, including legal cost and interest amounts, is approximately $4.1 million in favor of Nova Hut.  The Company does not believe that Nova Hut has recourse to the Company to collect this award amount.  However, Nova Hut has submitted a court filing in The Netherlands to enforce the award against Kaiser Netherlands which has limited assets.

The Company continues to evaluate its remaining options against Nova Hut and the International Finance Corporation (“IFC”).  Among the options being considered are the filing of independent arbitration claims by the Company (as opposed to Kaiser Netherlands) against Nova Hut and the IFC in accordance with prior rulings of the Bankruptcy Court.  The Bankruptcy Court has entered an order staying the Company’s claim against the IFC pending submission of the dispute to arbitration.  Similarly, the Bankruptcy Court has entered an order staying the Company’s bankruptcy claim against Nova Hut pending arbitration.  The Company recently filed a motion with the Bankruptcy Court to secure discovery against Nova Hut and the IFC, pending the initiation of international arbitration proceedings by the Company as previously ordered by the Bankruptcy Court.  In a combined hearing held in Delaware on April 25, 2007, the Bankruptcy Court denied the Company’s motion for discovery in advance of the initiation of separate arbitration proceedings against the IFC and Nova Hut, respectively.  The Company has filed a motion with the District Court seeking appeal of the Bankruptcy Court’s denial of the Company’s discovery motion.  This appeal is still pending.

In December 2003, an ICC arbitration panel, under the dispute resolution provisions of the Nova Hut mini-mill subcontract between Kaiser Netherlands and the mini-mill’s main equipment supplier, Tippins, Inc., issued a final award that was on balance favorable to Kaiser Netherlands.  As a result of the ruling, Kaiser Netherlands was relieved of the obligation to pay retention to Tippins, and Kaiser Netherlands was awarded a net cash settlement of $2.6 million.  The Company has not recorded this award due to the uncertainties regarding collectibility.  However, the Company is actively pursuing collection of this award.

The continued litigation of these disputes has had, and will continue to have, a negative impact on the cash flow of the Company.

Taking into account the results of the ICC arbitration ruling against Kaiser Netherlands, in the second quarter of 2006 the Company wrote off the remaining Nova Hut contract receivable of $3.0 million by recording an additional reserve of $3.0 million.

Kaiser-Hill

On October 13, 2005, Kaiser-Hill declared physical completion of the cleanup and closure of the DOE’s Rocky Flats site.  DOE has reviewed Kaiser-Hill’s declaration as required under the Closure Contract. On December 8, 2005, the DOE accepted the physical completion declaration in accordance with the Closure Contract. The projected total fee to be earned pursuant to the Closure Contract is expected to be $510.9 million based on Kaiser-Hill’s cost to complete the site closure of $3.44 billion.  As of November 12, 2007, Kaiser-Hill has received $510.8 million of such fee from the DOE.  A substantial portion of the received fee remains subject to audit.

Under Kaiser-Hill’s contract with the DOE, Kaiser-Hill is not responsible for, and the DOE pays all costs associated with, any liability, including, without limitation, any claims involving strict or absolute liability and any civil fine or penalty, expense, or remediation cost, but limited to those of a civil nature, which may be incurred by, imposed on, or asserted against Kaiser-Hill arising out of any act or failure to act, condition, or exposure which occurred before Kaiser-Hill assumed responsibility on July 1, 1995 (pre-existing conditions). To the extent the acts or omissions of Kaiser-Hill constitute willful misconduct, lack of good faith, or failure to exercise prudent business judgment on the part of Kaiser-Hill managerial personnel and cause or add to any liability, expense, or remediation cost resulting from pre-existing conditions, Kaiser-Hill is responsible, but only for the incremental liability, expense, or remediation caused by Kaiser-Hill.

The Closure Contract further provides that Kaiser-Hill will be reimbursed for the reasonable cost of bonds and insurance allocable to the Rocky Flats contract and for liabilities and expenses incidental to these liabilities, including litigation costs, to third parties not compensated by insurance or otherwise. There is an exception to this reimbursement provision applicable to liabilities caused by the willful misconduct, lack of good faith or failure to exercise prudent business judgment by Kaiser-Hill managerial personnel.

As the contract between Kaiser-Hill and the DOE is cost-reimbursable in nature, the costs invoiced by Kaiser-Hill for reimbursement by the DOE are subject to audit by the U.S. government.  Also since the inception of Kaiser-Hill, the Company invoiced certain management oversight costs to Kaiser-Hill. These Company-invoiced management oversight costs

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to Kaiser-Hill have been reviewed by the DOE and remain subject to final approval.  Government audits at Kaiser-Hill are ongoing.  Although Kaiser-Hill and the Company have historically provided for their estimates of disallowed costs on cost-reimbursable contracts, uncertainties exist with regard to whether government audits will result in any disallowed costs needing to be refunded to the government customer.  The continued adequacy of provisions for reserves with regard to unallowable costs is reviewed regularly.

Kaiser-Hill now operates under the closeout phase of the DOE Rocky Flats Closure Contract, primarily resolving open administrative issues and providing support to the DOE to achieve regulatory closure of the site.  The closeout phase of the contract is a cost reimbursable phase and is not fee - bearing; the Company does not expect that the closeout phase will impact fees earned.

On December 8, 2005, when the DOE accepted physical completion in accordance with the Rocky Flats contract, it authorized Kaiser-Hill to invoice all remaining performance fees less a retained amount equaling $5.0 million which was retained by the DOE for possible contract contingencies.  On January 11, 2006, Kaiser-Hill received payment for all fees except for the retained amount.  As a result of this payment, on March 1, 2006, the Company received an $80.0 million cash distribution (representing its 50% share) from Kaiser-Hill.  On April 14, 2006, $4.9 million of the remaining $5.0 million retention was released to Kaiser-Hill by the DOE.  It cannot be determined at this time what portion of the remaining $0.1 million DOE retention balance will ultimately be released and when (if ever) such a release would occur.  On June 30, 2006, the Company received an additional $5.0 million cash distribution from Kaiser-Hill.  On February 27, 2007, the Company received another cash distribution from Kaiser-Hill in the amount of $1.5 million.

As of November 12, 2007, Kaiser-Hill has withheld approximately $3.6 million from distribution to provision against potential risks associated with U.S. Government audits.  At this time, it is not possible to predict the number of years that will be required to complete the government audit process.  The Company expects to receive its 50% share of any distribution of such funds from Kaiser-Hill.

Post-Retirement Benefit Plan Obligation

In accordance with the terms and provisions of the Plan of Reorganization for Old Kaiser, the Company remains obligated to continue to fulfill the provisions of Old Kaiser’s previously curtailed benefits plan, which provides certain medical, retirement, and death benefits to a group of retirees.  The Company was self-insured for all benefits payable under the plan.

Since the December 2000 approval of the reorganization plan, the Company had been negotiating with the Bankruptcy Court-appointed Official Committee of Retirees (“OCR”) to design and implement a benefits funding plan that would provide for all retiree benefit obligations going forward.   In an adversary claim hearing in the Bankruptcy Court held on April 12, 2006, the Court accepted the Company’s proposal to establish a Voluntary Employees’ Beneficiary Association (“VEBA”) to fund retirees’ future medical and death benefits in the present value amount of approximately $6.1 million.  The present value pension obligation of $0.3 million will continue to be funded directly by the Company.  As of March 31, 2007, the Company had an accrued liability of $6.4 million.  The VEBA was established and funded by the Company in the amount of approximately $6.1 million effective April 30, 2007. Through April 30, 2007, the benefits had been funded by the Company through a claims administrator.

Furthermore, according to the terms of the Bankruptcy Court decision, after the VEBA has been in place for five years, the Company will be required to undertake an actuarial analysis of the projected net present value of benefits remaining to be paid out.  If the remaining VEBA fund amount is then not sufficient to pay the estimated present value of future benefits obligations, then the Company will be required to contribute the estimated shortfall amount to the VEBA fund.  It is not possible to predict at this time whether a shortfall in the VEBA fund will exist after a period of five years and, if so, the required amount of the Company’s contribution for the shortfall.

8.             New Accounting Standards

In June 2006, the Financial Accounting Standards Board, (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 is an interpretation of FASB Statement No. 109, “Accounting for Income Taxes,” and seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. In addition, FIN 48 provides guidance on de-recognition, classification, interest and penalties, and accounting in interim periods and requires expanded disclosure with respect to the uncertainty in income taxes.   We adopted the provisions of FIN 48 on January 1, 2007. The Company recognizes accrued interest related to unrecognized tax benefits in interest expense and penalties in operating expense. No amounts were accrued for payment of interest and penalties at January 1, 2007. There was no cumulative effect as a result of applying FIN 48. No adjustment was made to retained earnings on our opening consolidated balance sheet.

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In September 2006, the FASB issued Statements of Financial Accounting Standards (“SFAS”) No. 157, Fair Value Measurements (“SFAS No. 157”). 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 applies to existing accounting pronouncements that require or permit fair value measurements in which FASB had previously concluded fair value is the most relevant measurement attribute. Accordingly, SFAS No. 157 does not require any new fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, with early adoption encouraged. The Company is currently evaluating the impact the adoption of this statement will have on its consolidated financial statements.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities-Including an amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure eligible items at fair value at specified election dates. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings at each subsequent reporting date. The fair value option (i) may be applied instrument by instrument, with certain exceptions, (ii) is irrevocable (unless a new election date occurs) and (iii) is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is effective for the Company on January 1, 2008 and is not expected to have a significant impact on the Company’s consolidated financial statements.

a fixed group of retirees.  Effective April 30, 2007, a VEBA has been established in the amount of $6.1 million to cover the medical and death benefit obligations.  We have a one-time obligation to fund any shortfall in the VEBA, as described in Note 7 to the unaudited consolidated financial statements included in Item 1 of Part I Financial Statements, of this report. We will continue to fund the present value pension obligation of $0.3 million directly.

Outlook

Potential Kaiser-Hill Distribution .  As we look forward, a significant factor in determining the value of our Common Stock is the closeout performance of Kaiser-Hill and the completion of the U.S. Government’s related project audits.

On October 13, 2005, Kaiser-Hill declared physical completion of the clean up and closure of the DOE’s Rocky Flats site.  On December 8, 2005, the DOE accepted the physical completion in accordance with the contract.  The projected total fee to be earned pursuant to the contract is estimated to be $510.9 million based on Kaiser-Hill’s cost to complete the site closure of $3.44 billion.  As of November 12, 2007, Kaiser-Hill had received $510.8 million of such fee from the DOE.

On December 8, 2005, when the DOE accepted physical completion in accordance with the Rocky Flats Closure Contract, it authorized Kaiser-Hill to invoice all remaining performance fees less a retained amount equaling $5.0 million which was retained by the DOE for possible contract contingencies.  On January 11, 2006, Kaiser-Hill received payment for all fees except for the retained amount.  As a result of this payment, on March 1, 2006, the Company received an $80.0 million cash distribution (representing its 50% share) from Kaiser-Hill.  As of March 31, 2006, Kaiser-Hill had received $505.9 million of the $510.9 million due from the DOE. On April 14, 2006, $4.9 million of the remaining $5.0 million was released to Kaiser-Hill by the DOE.  It cannot be determined at this time what amount, if any, of the remaining $0.1 million DOE retention balance will ultimately be released and when, if ever, such a release will occur.  On June 30, 2006, the Company received an additional $5.0 million cash distribution from Kaiser-Hill (representing its 50% share).  On February 27, 2007, the Company received another $1.5 million cash distribution from Kaiser-Hill (representing its 50% share).

Kaiser-Hill now operates under the closeout phase of its contract with the DOE, primarily resolving open administrative issues and providing support to the DOE to achieve regulatory closure of the site.  The closeout phase of the contract is a cost reimbursable phase and is not fee-bearing; the Company does not expect that the closeout phase will impact fees earned.

As of November 12, 2007, Kaiser-Hill has withheld approximately $3.6 million from distribution to provision against potential risks associated with U.S. Government audits. We expect to receive our 50% share of any distribution of such funds by Kaiser-Hill.

At this time, it is not possible to predict the number of years that will be required to complete the government audit process.

Nova Hut.   We are currently evaluating our remaining options against Nova Hut and the IFC.  Among the options being considered is filing independent arbitration claims by Kaiser Holdings (as opposed to Kaiser Netherlands) against Nova Hut and the IFC in accordance with prior rulings of the Bankruptcy Court.  The Bankruptcy Court has entered an order staying our bankruptcy claim against the IFC pending submission of the dispute for arbitration.  Similarly, the Bankruptcy Court has entered an order staying our bankruptcy claim against Nova Hut, pending submission of the dispute to arbitration.

The continued litigation of these disputes has had, and will continue to have, a negative impact on our cash flow.

Taking into account the results of the ICC arbitration ruling against Kaiser Netherlands, in the second quarter of 2006 we wrote off the remaining Nova Hut contract receivable of $3.0 million by recording an additional reserve of $3.0 million.

Odd-Lot Tender Offer. Our Kaiser Common Stock is currently registered under the Securities Exchange Act of 1934 (the “Exchange Act”), and consequently we are subject to reporting obligations of the Exchange Act.

On October 25, 2007, the Company initiated a tender offer to purchase all shares of Common Stock held by stockholders who owned of record or beneficially fewer than 100 shares as of the close of business on October 22, 2007 and who continue to hold such shares through the expiration of the tender offer (November 30, 2007, unless the offer is extended) (“the Offer”).  If, after the Company purchases shares in the Offer, the Company has fewer than 300 stockholders of record, as calculated under the rules and regulations of the Exchange Act, we may file a Form 15 with the SEC, as a result of which our registration of the Common Stock and our duty to file reports with the SEC (“SEC Reporting Obligations”) under Sections 13(a) and 15(d) of the Exchange Act would cease, and we would no longer be a reporting company.  This would mean that

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we would no longer be required to file with the SEC certain reports and forms, including Forms 10-K, 10-Q and 8-K and proxy statements.  In such event, thereafter, the Company would provide information about its quarterly and annual financial results to its remaining stockholders by other means, such as through its website.

Critical Accounting Policies and Significant Estimates

The preparation of financial statements in conformity with GAAP requires that we make estimates and assumptions affecting the assets and liabilities (including contingent assets and liabilities) reported at the date of the Consolidated Financial Statements and the income statement amounts reported for the periods presented.  We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances.  Actual results may differ from these estimates under different assumptions or conditions.

Our accounting measurements that are most affected by our estimates of future events are:

·                   Estimated fees on the Kaiser-Hill joint venture. Estimating future costs, contract contingencies and revenues and profits, is a process requiring a high degree of judgment.  In the event of a change in total estimated contract cost or profit, the cumulative effect of such change is recorded in the period the change in estimate occurs.  Now that the contract has been declared complete, additional revenue recognition and our profitability from the Kaiser-Hill contract may be adversely affected to the extent that estimated cost to complete or incentive or award fee estimates are revised upon audit from the U. S. Government. The Kaiser-Hill contract contains incentive provisions for increased or decreased revenue and profit based on actual performance against established cost targets and schedule-related goals.  Incentive fees have been included in estimated contract revenue at the time the amounts can be reasonably determined and are reasonably assured based on historical experience and other objective criteria.  Should total costs of the project be revised based upon the results of U. S. Government audits, previously recognized revenues could be reversed and/or future period revenues could be reduced; and

·                   Our liability in connection with a post-employment medical benefit plan for a fixed group of retirees.  This liability is affected by changes in the discount rate and certain actuarial assumptions.  Should actual rates and results differ from the assumptions used, revisions to the liability would be required resulting in additional income statement charges.

New Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board, (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 is an interpretation of FASB Statement No. 109, “Accounting for Income Taxes,” and seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. In addition, FIN 48 provides guidance on de-recognition, classification, interest and penalties, and accounting in interim periods and requires expanded disclosure with respect to the uncertainty in income taxes.   We adopted the provisions of FIN 48 on January 1, 2007. There was no cumulative effect as a result of applying FIN 48. No adjustment was made to retained earnings on our opening consolidated balance sheet.

In September 2006, the FASB issued Statements of Financial Accounting Standards (“SFAS”) No. 157, Fair Value Measurements (“SFAS No. 157”). 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 applies to existing accounting pronouncements that require or permit fair value measurements in which FASB had previously concluded fair value is the most relevant measurement attribute. Accordingly, SFAS No. 157 does not require any new fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, with early adoption encouraged. The Company is currently evaluating the impact the adoption of this statement will have on its consolidated financial statements.

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In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities-Including an amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure eligible items at fair value at specified election dates. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings at each subsequent reporting date. The fair value option (i) may be applied instrument by instrument, with certain exceptions, (ii) is irrevocable (unless a new election date occurs) and (iii) is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is effective for the Company on January 1, 2008 and is not expected to have a significant impact on the Company’s consolidated financial statements.

RESULTS OF OPERATIONS

Gross Revenues

We had no gross revenues for the three and nine month periods ended September 30, 2007. For the comparable periods of 2006, gross revenues were $0.0 million and $0.2 million, respectively.  The Company’s gross revenues reported for the first nine months in 2006 are directly attributable to the operations of KAMS.  Gross revenues of KAMS decreased in 2007 due to the wind-down and completion of work at the DOE’s Rocky Flats site, at which KAMS provided services. Future revenue is not expected from our KAMS subsidiary. Gross revenues in the nine month period ended September 30, 2006, from KAMS operations resulted primarily from the performance of laboratory audits and data validation services.

Equity Income (Loss) In Earnings of Joint Venture

Our current primary remaining source of income is our 50% ownership in Kaiser-Hill. We own Kaiser-Hill equally with CH2M Hill. The financial information contained herein for Kaiser-Hill is reflected on the equity basis.

Contract Provisions for Revenue and Performance Award

Kaiser-Hill’s contract with the DOE provides that Kaiser-Hill earn revenue equal to the actual cost of physical completion plus a performance fee.  The performance fee is determined based on (1) Kaiser-Hill’s cost to complete the site closure, which must be within the range of $3.1 billion and $4.9 billion, (2) the schedule of physical completion, which must be before 2007 and (3) Kaiser-Hill’s safety performance.  On October 13, 2005, Kaiser-Hill declared physical completion of the cleanup and closure of the DOE’s Rocky Flats site.  At the time of declaration of physical completion on October 13, 2005, Kaiser-Hill’s cost estimate to complete the project remained at $3.44 billion, which resulted in a performance fee payable to Kaiser-Hill projected to be $510.9 million, of which $255.0 million had previously been received.  On December 8, 2005, the DOE affirmed Kaiser-Hill’s declaration as required under the contract and the DOE authorized Kaiser-Hill to invoice all remaining performance fees less a retained amount equaling $5.0 million.  On January 11, 2006, Kaiser-Hill received payment for all remaining fees except the retained amount.  As a result of this payment, on March 1, 2006, the Company received an $80.0 million cash distribution (representing its 50% share) from Kaiser-Hill.  On April 14, 2006, $4.9 million of the remaining $5.0 million retention was released to Kaiser-Hill by DOE.  It cannot be determined at this time what portion of the remaining $0.1 million DOE retention balance will ultimately be released and when (if ever) such a release would occur.  On June 30, 2006, the Company received an additional $5.0 million cash distribution from Kaiser-Hill.  On February 27, 2007, the Company received another $1.5 million cash distribution from Kaiser-Hill.  As of November 12, 2007, Kaiser-Hill had received $510.8 million of the $510.9 million fee due from the DOE pending completion of the closeout phase of the contract.

Since Kaiser-Hill declared physical completion, many of the performance risks have been eliminated, but contract risks and uncertainties remain.  As a result of declaration of physical completion in October 2005, Kaiser-Hill recognized all remaining performance fees under the contract in 2005 and has established reserves for certain risks and uncertainties related to the contract (see details described below in “— Closure Contract Billing Provisions”).  Kaiser-Hill will reverse these reserves to the extent it is successful in mitigating or eliminating these remaining contract risks and uncertainties.

Kaiser-Hill recognized a substantial amount of the fee income from the DOE upon the declaration of physical completion on October 13, 2005 and, accordingly, the Company’s proportionate share of such income was recorded in Equity Income in Earnings of Affiliates in its consolidated statement of operations for the year ended December 31, 2005. For the three and nine months ended September 30, 2007, we reported no income from our 50% ownership in Kaiser-Hill. In the future, we may have additional income from Kaiser-Hill to report to the extent Kaiser-Hill releases certain retained reserve amounts, as mentioned in “—the Outlook” above.

Closure Contract Billing Provisions

From the inception of Kaiser-Hill’s contract with the DOE in February 2000 through December 31, 2006, Kaiser-Hill invoiced the DOE for the performance fee based on the contract provisions of approximately $510.9 million, and collected an

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aggregate of $510.8 million in fees from the DOE .  It is not known when, if ever, the remaining DOE retention balance of $0.1 million will be released to Kaiser-Hill.  By contract, this remaining retention balance amount cannot be released until final contract closeout.

Fee payments made by the DOE to Kaiser-Hill, less certain non-reimbursable costs and reserve and retention amounts, have been distributed to the joint venture owners upon receipt.  Kaiser-Hill has historically incurred expenses that are not reimbursable by DOE pursuant to applicable Federal regulations.  Accordingly, such expenses, which Kaiser-Hill estimates could total approximately 15% to 20% of the total award fee, are deducted from the total fee earned and collected by Kaiser-Hill prior to any distributions to either of its two owners.  From Kaiser-Hill’s inception through November 12, 2007, Kaiser-Hill had distributed $194.2 million in cash to each of its two owners.

As of November 12, 2007, Kaiser-Hill has withheld approximately $3.6 million from distribution to provision against potential risks associated with U.S. Government audits.  As discussed above, Kaiser-Hill also may receive an additional $0.1 million that has been retained by DOE.  The Company expects to receive its 50% share of any future distributions of such funds by Kaiser-Hill.

The Company received distributions in the aggregate amount of $85.0 million from Kaiser-Hill during 2006.  As a result, the Company had reduced its investment in Kaiser-Hill on its balance sheet by $85.0 million as of December 31, 2006.  On February 27, 2007, the Company received another $1.5 million cash distribution from Kaiser-Hill.  The Company has further reduced its investment in Kaiser-Hill on its consolidated balance sheet by $1.5 million as of March 31, 2007.

Kaiser-Hill now operates under the closeout phase of its contract with the DOE, primarily resolving open administrative issues and providing support to the DOE to achieve regulatory closure of the site.  The closeout phase of the contract is a cost - reimbursable phase and is not fee - bearing; the Company does not expect that the closeout phase will impact fees earned.  Effective December 31, 2005, Kaiser-Hill terminated its remaining employees. Staff necessary to complete closeout activities is subcontracted or provided by CH2M Hill.

Administrative Expenses

Administrative expenses for the three months and nine months ended September 30, 2007 were $0.8 million and $2.9 million, respectively, an increase of $0.1 million and a decrease of $0.3 million, respectively, compared to the three and nine months ended September 30, 2006, which is due primarily to a fluctuation in legal fees.

Our cost to provide certain on-going post-retirement medical benefits to a fixed number of retirees is also treated as an administrative expense. In the three and nine month periods ended September 30, 2007, the expenses related to this plan were $0.0 million and $0.3 million, respectively, compared to $0.1 million and $0.7 million for the three and nine month periods ended September 30, 2006.

Impairment Loss on Investment in Affiliates

As a result of recent negotiations between the Company and the other owners of the LLC, the Company reduced the carrying value of its Investment in Affiliates to $1.0 million by recording an impairment charge of $1.8 million during the third quarter, which reflects the realizable value of the asset.

 Interest Income

Interest income for the three and nine months ended September 30, 2007 was $0.5 million and $1.4 million, respectively, which represents a decrease of $0.1 million and an increase of $0.1 million, respectively, compared to the three and nine month period ended September 30, 2006.

Income Tax Benefit/Expense

We recorded an income tax benefit of $0.9 million and $1.3 million on operating loss from operations of $2.2 million and $3.3 million, respectively, during the three and nine months ended September 30, 2007. Our effective income tax rates of 43% and 41%, respectively, for the three and nine months ended September 30, 2007, reflect realizable value of income taxes receivables and the non-taxability of certain income for federal income tax purposes. For the three and nine months ended September 30, 2006, we recorded an income tax benefit of $0.2 million and $2.7 million, respectively, on operating loss from operations of $0.1 million and $5.2 million, respectively.

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LIQUIDITY AND CAPITAL RESOURCES

Operating Activities

We used $7.7 million of cash during the nine months ended September 30, 2007, compared to $34.6 million for the nine months ended September 30, 2006. The $26.9 million decrease in the use of cash for the nine months ended September 30, 2007, compared to the nine months ended September 30, 2006, was primarily due to a decrease in income tax payments made in 2007 compared to 2006.

As a result of recent negotiations between the Company and the other owners of the LLC, the Company reduced the carrying value of its Investment in Affiliates to $1.0 million by recording an impairment charge of $1.8 million during the third quarter, which reflects the realizable value of the asset. On November 2, 2007, the Company received the sum of $1.0 million from the owners of the LLC representing the full amount of its recovery of investment in the LLC as agreed upon between the Company and the LLC.

Investing Activities

We used $0.1 million in investing activities during the nine months ended September 30, 2007, including purchase of a certificate of deposit and a $1.5 million distribution from Kaiser-Hill, compared to $86.0 million received for the nine months ended September 30, 2006. The DOE accepted physical completion in accordance with the Rocky Flats Contract in the last quarter of 2005 and Kaiser-Hill received all remaining project fees except for the DOE retention amount of $0.1 million in the quarter ended June 30, 2006, resulting in the $85 million cash distribution to us during the first nine months of 2006.

Financing Activities

During the nine months ended September 30, 2007, we used $10.8 million of cash to pay a cash dividend to our common stockholders.   For the nine months ended September 30, 2006, we engaged in no financing activities.

Liquidity and Capital Resource Outlook

We currently have no debt. We continue to finance the bankruptcy distribution requirements and follow-on working capital needs primarily through the use of the available cash. Based on (i) current expectations for operating activities and results, (ii) expected Kaiser-Hill distributions, (iii) our current available cash position, (iv) recent trends and projections in liquidity and capital needs (including funds that may be needed in connection with any potential going private transactions), (v) current expectations of total allowed claims upon the completion of the bankruptcy proceedings, and (vi) estimated amounts necessary to satisfy our obligation to provide future benefits to a fixed group of retirees, management believes we have sufficient liquidity to cover our future operating needs and income tax requirements.  We have established and funded a VEBA in the amount of approximately $6.1 million effective April 30, 2007.

Other Matters

We have various obligations and liabilities from our continuing operations, including general overhead expenses in connection with maintaining, operating and winding down the various entities. Additionally, we believe contingent liabilities may exist in the areas described in Note 7 to the Consolidated Financial Statements.

We have had to, and may continue to have to, draw down existing cash balances to fund current operating cash needs.

In light of physical completion of Kaiser-Hill’s contract with the DOE, until and unless the Company is successful in developing a new revenue base through new commercial activities or undertakings, it is anticipated that the Company will need to rely on existing cash balances to fund its continuing operations, including overhead costs.  For the quarter ended September 30, 2007, the Company generated $0.0 million in gross revenues and $0.5 million in interest income while generating operating losses of $0.8 million, which were funded by cash on hand.  This draw down in cash balances could result in a decrease in the value of Kaiser Common Stock.  Furthermore, if the Company does not establish new operating activities, its existing cash balances could become insufficient to satisfy its overhead costs.  The Company has not identified an attractive potential acquisition or strategic opportunity in the last year, and management cannot predict if and when such an opportunity may arise.  In the meantime, the Company generated no revenues in the first nine months of 2007 and the second half of 2006, from KAMS.  If the Company does not begin to generate revenues again, it will continue to operate at a loss and will be required to fund all of its operating costs with cash on hand.

If we deregister our common stock under the Exchange Act, the amount of information about us that is publicly available will be reduced, and the liquidity of our common stock will further decrease.

Our Board of Directors continues to consider alternatives for terminating the registration of our common stock under the Exchange Act.  On October 25, 2007, we commenced the Offer.  If, after we purchase shares in the Offer, we have fewer than 300 stockholders of record, as calculated under the rules and regulations of the Exchange Act, we may file a Form 15 with the SEC, as a result of which our registration of the Common Stock and our SEC Reporting Obligations under Sections 13(a) and 15(d) of the Exchange Act would cease, and we would no longer be a reporting company.  If we were to deregister our common stock under the Exchange Act, we would no longer be required to file information with the SEC or provide certain information to our stockholders under the Exchange Act, and many provisions of the Exchange Act would become inapplicable to us.  Therefore, deregistration would substantially reduce the information we would be required to furnish to our stockholders.  We intend to use available cash to purchase shares tendered and accepted for purchase in the Offer.

Furthermore, our common stock is currently traded on the Pink Sheets. Broker-dealers often decline to trade in Pink Sheet stocks given that the market for such securities is often limited, the stocks are more volatile, and the risks to investors are greater. These factors may reduce the potential market for our common stock by reducing the number of potential investors, and if we deregister our common stock, the number of potential investors may be reduced further.  The market for our common stock has been relatively illiquid in the past, and deregistration may make it even more difficult for investors in our common stock to sell shares to third parties or to otherwise dispose of them. This could cause our stock price to decline. Additionally, there can be no assurance that our Common Stock will continue to trade on the Pink Sheets.

We may be unsuccessful funding the benefits funding plan to satisfy our obligation to provide future benefits to a fixed group of retirees.

The Company remains obligated to continue to fulfill the provisions of Old Kaiser’s previously curtailed benefits plan, which provides certain medical and death benefits to a group of retirees.  All of the benefits derived from the plan are fully covered by the Company’s self-insurance.

Since the December 2000 approval of the reorganization plan, the Company had been negotiating with the  Official Committee of Retirees (“OCR”) appointed by the Bankruptcy Court to design and implement a benefits funding plan that would provide for all retiree benefit obligations going forward.   In an adversary claim hearing in the Bankruptcy Court held on April 12, 2006, the Bankruptcy Court accepted the Company’s proposal to establish a Voluntary Employees’ Beneficiary Association(“VEBA”) to fund retirees’ future medical and death benefits in the present value amount of approximately $6.1 million.  The present value pension obligation of $0.3 million will continue to be funded directly by the Company.  Effective April 30, 2007, the VEBA was established and funded in the amount of approximately $6.1 million.

According to the terms of the Bankruptcy Court decision, after the VEBA has been in place for five years, the Company will be required to undertake an actuarial analysis of the projected net present value of benefits remaining to be paid out.  If the remaining VEBA fund amount is then not sufficient to pay the estimated present value benefits obligation, then the Company will be required to contribute the estimated shortfall amount to the VEBA fund.  It is not possible to predict at this time whether a shortfall in the VEBA fund would exist after a period of five years and, if so, what the Company’s contribution requirement for a shortfall amount would be in this circumstance. A requirement to fund a significant shortfall in the VEBA fund could result in a decrease in the value of Kaiser Common Stock.

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We may be unable to obtain performance guarantees, which may limit our ability to undertake new activities.

Given the reorganization history of Old Kaiser, we may not be able to obtain satisfactory contract performance guaranty mechanisms, such as performance bonds and letters of credit, on satisfactory terms or at all, to the extent such mechanisms are needed for new activities and projects.  These factors could limit the nature of the business activities in which we can engage, which may adversely impact our cash flow and operating results and result in a decrease in the value of our common stock.

We may be unable to generate funds to meet our cash flow needs, and we may be unable to access additional capital.

We have used available cash and interest earned on available cash to meet our cash flow obligations for the past twelve months. We may be unable to generate sufficient funds to meet our cash flow needs in the future.  In the event our cash needs exceed our current estimates, we may not be able to obtain additional capital to meet those needs on favorable terms, or at all.  In particular, due to the reorganization history of Old Kaiser and current financial markets, additional capital may not be available to us.  An inability to gain access to additional capital could also limit our ability to undertake new activities.  Ultimately, an inability to meet our existing obligations or to undertake new activities could adversely impact our cash flow and operating results.  A decrease in our cash flows and operating results could result in a decrease in the value of our common stock.

There are risks associated with the resolution of additional financial and administrative contract closeout issues that may affect the timing and award of future cash distributions  from Kaiser-Hill to the Company.

On October 13, 2005, Kaiser-Hill declared physical completion of the cleanup and closure of the DOE’s Rocky Flats site.  Kaiser-Hill has withheld approximately $3.6 million from the DOE final distribution, pending resolution of certain financial and administrative contract closeout issues, including those associated with the potential risks arising from U.S. Government audits.  It is possible that there will be disputes between the U.S. Government and Kaiser-Hill as to how these issues should be addressed and dealt with.  Such disputes could delay or reduce future distributions of cash from Kaiser-Hill to the Company and could cause a decrease in the value of our common stock.

There are potential risks associated with U.S. Government audits of Kaiser-Hill which could result in disallowed costs or cost reclassifications requiring refunds of cash from Kaiser-Hill to the DOE.

As the contract between Kaiser-Hill and the DOE contains cost reimbursement provisions, the costs invoiced by Kaiser-Hill for reimbursement by the DOE are subject to audit by the U.S. Government.  Government audits of costs invoiced by Kaiser-Hill are ongoing and are expected to take many years to complete.  Although Kaiser-Hill has historically provided its estimates of disallowed costs, uncertainties exist with regard to the government audit of Kaiser-Hill.  To the extent that costs are disallowed and cash refunds are made to the DOE, future cash distributions from Kaiser-Hill to the Company would be reduced and could cause a decrease in the value of our common stock.

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*                     Represents Compensation Arrangements

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