HALLIBURTON CO - 10-Q Quarterly Report

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FORM 10-Q

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

[X] Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the quarterly period ended September 30, 2003

OR

[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from _____ to _____

Commission File Number 1-3492

HALLIBURTON COMPANY

(a Delaware Corporation)
75-2677995

5 HOUSTON CENTER
1401 MCKINNEY, SUITE 2400
HOUSTON, TEXAS 77010
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)

TELEPHONE NUMBER - AREA CODE (713) 759-2600

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.

Yes X No
----- -----

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).

Yes X No
----- -----

Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.

Common stock, par value $2.50 per share:
Outstanding at October 24, 2003 - 438,063,997

HALLIBURTON COMPANY

INDEX

1

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

HALLIBURTON COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(Millions of dollars and shares except per share data)

See notes to quarterly condensed consolidated financial statements.

2

HALLIBURTON COMPANY
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(Millions of dollars and shares except per share data)

See notes to quarterly condensed consolidated financial statements.

3

HALLIBURTON COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(Millions of dollars)

See notes to quarterly condensed consolidated financial statements.

4

HALLIBURTON COMPANY
NOTES TO QUARTERLY CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

NOTE 1. MANAGEMENT REPRESENTATIONS

Our accounting policies are in accordance with generally accepted
accounting principles in the United States of America. The preparation of
financial statements in conformity with accounting principles generally accepted
in the United States of America requires us to make estimates and assumptions
that affect:

- the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial
statements; and
- the reported amounts of revenues and expenses during the reporting
period.

Ultimate results could differ from those estimates.

The accompanying unaudited condensed consolidated financial statements
were prepared using generally accepted accounting principles for interim
financial information and the instructions to Form 10-Q and Regulation S-X.
Accordingly, these financial statements do not include all information or
footnotes required by generally accepted accounting principles for complete
financial statements and should be read together with our 2002 Annual Report on
Form 10-K, as adjusted by our Form 8-K filed on October 28, 2003. Certain prior
period amounts have been reclassified to be consistent with the current
presentation.

In our opinion, the condensed consolidated financial statements
included here contain all adjustments necessary to present fairly our financial
position as of September 30, 2003, the results of our operations for the three
and nine months ended September 30, 2003 and 2002 and our cash flows for the
nine months ended September 30, 2003 and 2002. Such adjustments are of a normal
recurring nature. The results of operations for the nine months ended September
30, 2003 and 2002 may not be indicative of results for the full year.

NOTE 2. BUSINESS SEGMENT INFORMATION

During the second quarter of 2003, we restructured our Energy Services
Group into four divisions, which is the basis for the four segments we now
report within the Energy Services Group. We grouped product lines in order to
better align ourselves with how our customers procure our services, and to
capture new business and achieve better integration, including joint research
and development of new products and technologies and other synergies. Our
Engineering and Construction Group (known as KBR) segment remains unchanged.

All prior period segment results have been restated to reflect these
changes. Our five business segments are organized around how we manage
the business. These segments are:

- Drilling and Formation Evaluation;
- Fluids;
- Production Optimization;
- Landmark and Other Energy Services; and
- Engineering and Construction Group.

DRILLING AND FORMATION EVALUATION. The Drilling and Formation
Evaluation segment is primarily involved in drilling and evaluating the
formations related to bore-hole construction and initial oil and gas formation
evaluation. The products and services in this segment incorporate integrated
technologies, which offer synergies related to drilling activities and data
gathering. The segment consists of drilling services, including directional
drilling and measurement-while-drilling/logging-while-drilling; logging
services; and drill bits. Included in this business segment are Sperry-Sun,
logging and perforating and Security DBS. Also included is our Mono Pumps
business, of which we disposed in the first quarter of 2003.

FLUIDS. The Fluids segment focuses on fluid management and technologies
to assist in the drilling and construction of oil and gas wells. Drilling fluids
are used to provide for well control, drilling efficiency, and as a means of
removing wellbore cuttings. Cementing services provide zonal isolation to
prevent fluid movement between formations, ensure a bond to provide support for
the casing, and provide wellbore reliability. Our Baroid and cementing product
lines, along with our equity method investment in Enventure Global Technology,
LLC, an expandable casing joint venture, are included in this segment.

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PRODUCTION OPTIMIZATION. The Production Optimization segment primarily
tests, measures and provides means to manage and/or improve well production once
a well is drilled and, in some cases, after it has been producing. This segment
consists of:

- production enhancement services (including fracturing, acidizing,
coiled tubing, hydraulic workover, sand control, and pipeline and
process services);
- completion products and services (including well completion
equipment, slickline and safety systems);
- tools and testing services (including underbalanced applications,
tubular conveyed perforating and testing services); and
- subsea operations conducted in our 50% owned company, Subsea 7,
Inc.

LANDMARK AND OTHER ENERGY SERVICES. This segment represents integrated
exploration and production software information systems, consulting services,
real-time operations, smartwells, and other integrated solutions. Included in
this business segment are Landmark Graphics, integrated solutions, Real Time
Operations and our equity method investment in WellDynamics B.V., an intelligent
well completions joint venture. Also included are Wellstream, Bredero-Shaw and
European Marine Contractors Ltd., all of which have been sold.

ENGINEERING AND CONSTRUCTION GROUP. The Engineering and Construction
Group provides engineering, procurement, construction, project management, and
facilities operation and maintenance for oil and gas and other industrial and
governmental customers. Our Engineering and Construction Group offers:

- onshore engineering and construction activities, including
engineering and construction of liquefied natural gas, ammonia
and crude oil refineries and natural gas plants;
- offshore deepwater engineering and marine technology and
worldwide construction capabilities;
- government operations, construction, maintenance and logistics
activities for government facilities and installations;
- plant operations, maintenance and start-up services for both
upstream and downstream oil, gas and petrochemical facilities as
well as operations, maintenance and logistics services for the
power, commercial and industrial markets; and
- civil engineering, consulting and project management services.

The tables below present revenues and operating income (loss) by
business segment on a comparable basis.

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Intersegment revenues are immaterial.

Total revenues include $1.1 billion, or 27% of total consolidated
revenues, for the third quarter 2003, and $1.8 billion, or 16%, of total
consolidated revenues, for the nine months ended September 30, 2003 from the
United States Government. Revenues from the United States Government during 2002
represented less than 10% of total consolidated revenues.

NOTE 3. DISPOSITIONS

HALLIBURTON MEASUREMENT SYSTEMS. In May 2003, we sold certain assets of
Halliburton Measurement Systems, which provides flow measurement and sampling
systems, to NuFlo Technologies, Inc. for approximately $33 million in cash,
subject to post-closing adjustments. The pretax gain on the sale of Halliburton
Measurement Systems assets was $24 million ($14 million after tax, or $0.03 per
diluted share) and is included in our Production Optimization segment.

WELLSTREAM. In March 2003, we sold the assets relating to our
Wellstream business, a global provider of flexible pipe products, systems and
solutions, to Candover Partners Ltd. for $136 million in cash. The assets sold
included manufacturing plants in Newcastle on the Tyne, United Kingdom, and
Panama City, Florida, as well as certain assets and contracts in Brazil. The
transaction resulted in a pretax loss of $15 million ($12 million after tax, or
$0.03 per diluted share), which is included in our Landmark and Other Energy
Services segment. Included in the pretax loss is the write-off of the cumulative
translation adjustment related to Wellstream of approximately $9 million. The
cumulative translation adjustment could not be tax benefited and therefore the
effective tax benefit for this loss on disposition was only 20%.

MONO PUMPS. In January 2003, we sold our Mono Pumps business to
National Oilwell, Inc. The sale price of approximately $88 million was paid with
$23 million in cash and 3.2 million shares of National Oilwell common stock,
which were valued at $65 million on January 15, 2003. We recorded a pretax gain
of $36 million ($21 million after tax, or $0.05 per diluted share) on the sale,
which is included in our Drilling and Formation Evaluation segment. Included in
the pretax gain is the write-off of the cumulative translation adjustment
related to Mono Pumps of approximately $5 million. The cumulative translation
adjustment could not be tax benefited and therefore the effective tax rate for
this disposition was 42%. In February 2003, we sold 2.5 million of our 3.2
million shares of the National Oilwell common stock for $52 million, which
resulted in a gain of $2 million pretax, or $1 million after tax, that was
recorded in "Other, net".

SUBSEA 7 FORMATION. In May 2002, we contributed substantially all of
our Halliburton Subsea assets, with a book value of approximately $82 million,
to a newly formed company, Subsea 7, Inc. The contributed assets were recorded
by the new company at a fair value of approximately $94 million. The $12 million
difference is being amortized over ten years representing the average remaining
useful life of the assets contributed. We own 50% of Subsea 7, Inc. and account
for this investment using the equity method in our Production Optimization
segment. The remaining 50% is owned by DSND Subsea ASA.

BREDERO-SHAW. In the second quarter of 2002, we incurred an impairment
charge of $61 million ($0.14 per diluted share) related to our then-pending sale
of Bredero-Shaw. On September 30, 2002, we sold our 50% interest in the
Bredero-Shaw joint venture to our partner ShawCor Ltd. The sale price of $149
million was comprised of $53 million in cash, a short-term note of $25 million
and 7.7 million of ShawCor Class A Subordinate shares. Consequently, we recorded
a 2002 third quarter pretax loss on the sale of $18 million, or $0.04 per
diluted share, which is reflected in our Landmark and Other Energy Services
segment. Included in this loss was $15 million of cumulative translation
adjustment loss which was realized upon the disposition of our investment in
Bredero-Shaw. During the 2002 fourth quarter, we recorded in "Other, net" a $9
million pretax loss on the sale of ShawCor shares.

EUROPEAN MARINE CONTRACTORS LTD. In January 2002, we sold our 50%
interest in European Marine Contractors Ltd., an unconsolidated joint venture
reported within our Landmark and Other Energy Services segment, to our joint
venture partner, Saipem. At the date of sale, we received $115 million in cash
and a contingent payment option valued at $16 million, resulting in a pretax
gain of $108 million, or $0.15 per diluted share after tax. The

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contingent payment option was based on a formula linked to performance of the
Oil Service Index. In February 2002, we exercised our option and received an
additional $19 million and recorded a pretax gain of $3 million, or $0.01 per
diluted share after tax, in "Other, net" in the statement of operations as a
result of the increase in value of this option.

NOTE 4. DISCONTINUED OPERATIONS

During the nine months ended September 30, 2003, we recorded a pretax
loss from discontinued operations of $85 million that included the following:

- approximately $55 million in professional and other fees
associated with due diligence, preparation, printing and
distribution costs of the disclosure statement and other aspects
of the proposed settlement for asbestos and silica liabilities;
- a $30 million second quarter 2003 charge for the
debtor-in-possession financing provided to Harbison-Walker in
connection with their Chapter 11 bankruptcy proceeding, which was
funded on July 31, 2003 and is expected to be forgiven by us on
the earlier of the effective date of a plan of reorganization for
DII Industries or the effective date of a plan of reorganization
for Harbison-Walker acceptable to DII Industries;
- a $10 million allowance recorded in the third quarter 2003 for an
estimated portion of uncollectible amounts related to the
insurance receivables purchased from Harbison-Walker in
connection with their Chapter 11 bankruptcy proceeding; and
- a $10 million release in the second quarter 2003 of environmental
and legal accruals that were no longer required related to
indemnities associated with our 2001 disposition of Dresser
Equipment Group.

During the second quarter of 2002, in connection with our asbestos
econometric study, we recorded a pretax expense of $153 million to discontinued
operations for existing and future asbestos claims and defense costs related to
disposed businesses, net of anticipated insurance recoveries. See Note 11. We
also recorded a pretax expense of $6 million associated with the Harbison-Walker
bankruptcy filing.

During the first quarter of 2002, we recorded a pretax expense to
discontinued operations of $3 million for asbestos claims and defense costs
related to disposed businesses, net of anticipated insurance recoveries for
asbestos claims. We also recorded pretax expense for a $40 million payment
associated with the Harbison-Walker bankruptcy filing.

NOTE 5. INCOME (LOSS) PER SHARE

Basic income (loss) per common share is based on the weighted average
number of common shares outstanding during the period. Diluted income (loss) per
common share includes additional common shares that would have been outstanding
if potential common shares with a dilutive effect had been issued. Excluded from
the computation of diluted income (loss) per common share are options to
purchase 16 million shares of common stock

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which were outstanding during the three months ended September 30, 2003 and 15
million shares during the nine months ended September 30, 2003. These options
were outstanding during the applicable period, but were excluded because the
option exercise price was greater than the average market price of the common
shares. The shares issuable upon conversion of the 3.125% convertible senior
notes due 2023 (see Note 15) were not included in the computation of diluted
income (loss) per common share since the conditions for conversion had not been
met as of September 30, 2003.

For the nine months ended September 30, 2002, we used the basic
weighted average shares in the calculation of diluted loss per common share, as
the effect of the common stock equivalents (which totaled two million shares for
this period) would be anti-dilutive based upon the net loss from continuing
operations.

NOTE 6. COMPREHENSIVE INCOME (LOSS)

The components of other comprehensive income (loss) adjustments to net
income include the following:

Accumulated other comprehensive income consisted of the following:

NOTE 7. RESTRICTED CASH

At September 30, 2003 we had restricted cash of $213 million.
Restricted cash consists of:

- $108 million deposit that collateralizes a bond for a patent
infringement judgment included in "Other current assets" (See
Note 12);
- $78 million as collateral for potential future insurance claim
reimbursements included in "Other assets, net"; and
- $27 million primarily related to cash collateral agreements for
outstanding letters of credit for various projects included in
"Other assets, net".

At December 31, 2002 we had restricted cash of $190 million.

NOTE 8. RECEIVABLE SECURITIZATION PROGRAM

On April 15, 2002, we entered into an agreement to sell accounts
receivable to a bankruptcy-remote limited-purpose funding subsidiary. Under the
terms of the agreement, new receivables are added on a continuous basis to the
pool of receivables, and collections reduce previously sold accounts receivable.
This funding subsidiary sells an undivided ownership interest in this pool of
receivables to entities managed by unaffiliated financial institutions under
another agreement. Sales to the funding subsidiary have been structured as "true
sales" under applicable bankruptcy laws. While the funding subsidiary is
wholly-owned by us, its assets are not available to pay any creditors of ours or
of our subsidiaries or affiliates, until such time as the agreement with the
unaffiliated companies is terminated following sufficient collections to
liquidate all outstanding undivided ownership interests. The undivided ownership
interest in the pool of receivables sold to the unaffiliated companies,
therefore, is reflected

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as a reduction of accounts receivable in our consolidated balance sheets. The
funding subsidiary retains the interest in the pool of receivables that are not
sold to the unaffiliated companies and is fully consolidated and reported in our
financial statements.

The amount of undivided interests which can be sold under the program
varies based on the amount of eligible Energy Services Group receivables in the
pool at any given time and other factors. The funding subsidiary initially sold
a $200 million undivided ownership interest to the unaffiliated companies, and
could from time to time sell additional undivided ownership interests. In July
2003, however, the balance outstanding under this facility was reduced to zero.
The total amount outstanding under this facility continued to be zero as of
September 30, 2003.

NOTE 9. INVENTORIES

Inventories are stated at the lower of cost or market. We manufacture
in the United States certain finished products and parts inventories for drill
bits, completion products and bulk materials that are recorded using the
last-in, first-out method and totaled $43 million at September 30, 2003 and
December 31, 2002. If the average cost method had been used, total inventories
would have been $18 million higher than reported at September 30, 2003 and $17
million higher than reported at December 31, 2002.

Over 90% of remaining inventory is recorded on the average cost method,
with the remainder on the first-in, first-out method.

Inventories at September 30, 2003 and December 31, 2002 are composed of
the following:

NOTE 10. LONG-TERM CONSTRUCTION CONTRACTS AND UNAPPROVED CLAIMS

Revenues from engineering and construction contracts are reported on
the percentage of completion method of accounting using measurements of progress
toward completion appropriate for the work performed. Progress is generally
based upon physical progress, man-hours or costs incurred based upon the
appropriate method for the type of job.

Billing practices for engineering and construction projects are
governed by the contract terms of each project based upon costs incurred,
achievement of milestones or pre-agreed schedules. Billings do not necessarily
correlate with revenues recognized under the percentage of completion method of
accounting. Billings in excess of recognized revenues are recorded in "Advanced
billings on uncompleted contracts". When billings are less than recognized
revenues, the difference is recorded in "Unbilled work on uncompleted
contracts". With the exception of claims and change orders which are in the
process of being negotiated with customers, unbilled work is usually billed
during normal billing processes following achievement of the contractual
requirements.

Recording of profits and losses on long-term contracts requires an
estimate of the total profit or loss over the life of each contract. This
estimate requires consideration of contract revenue, change orders and claims,
reduced by costs incurred and estimated costs to complete. Anticipated losses on
contracts are recorded in full in the period they become evident. Except where
we, because of uncertainties in the estimation of costs on a limited number of
projects, deem it prudent to defer income recognition, we do not delay income
recognition until projects have reached a specified percentage of completion. We
have not done so during the periods presented, although we followed such a
practice for some offshore projects prior to the periods presented herein.
Otherwise, profits are recorded from the commencement date of the contract based
upon the total estimated contract profit multiplied by the current percentage
complete for the contract.

When calculating the amount of total profit or loss on a long-term
contract, we include unapproved claims as revenue when the collection is deemed
probable based upon the four criteria for recognizing unapproved claims under
the American Institute of Certified Public Accountants Statement of Position
81-1, "Accounting for Performance of Construction-Type and Certain
Production-Type Contracts" (SOP 81-1). Including unapproved claims in this

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calculation increases the operating income (or reduces the operating loss) that
would otherwise be recorded without consideration of the probable unapproved
claims. Unapproved claims are recorded to the extent of costs incurred and
include no profit element. In substantially all cases, the probable unapproved
claims included in determining contract profit or loss are less than the actual
claim that will be or has been presented to the customer.

When recording the revenue and the associated unbilled receivable for
unapproved claims, we only accrue an amount up to the costs incurred related to
probable unapproved claims. The difference between the probable unapproved
claims included in determining contract profit or loss and the probable
unapproved claims recorded in "Unbilled work on uncompleted contracts" relates
to forecasted costs which have not yet been incurred. The amounts included in
determining the profit or loss on contracts, and the amounts booked to "Unbilled
work on uncompleted contracts" for each period are as follows:

Our claims at September 30, 2003 are included in the table above. These
claims relate to seven contracts, most of which are complete or substantially
complete. We are actively engaged in claims negotiation with the customers. The
largest claim relates to the Barracuda-Caratinga contract which was
approximately 78% complete at September 30, 2003. The probable unapproved claims
included in determining this contract's loss were $182 million at September 30,
2003 and at December 31, 2002. As most of the claim elements for this contract
will likely not be settled within one year, related amounts in unbilled work on
uncompleted contracts of $157 million at September 30, 2003 and $115 million at
December 31, 2002 included in the table above have been recorded to long-term
unbilled work on uncompleted contracts which is included in "Other assets, net"
on the balance sheet. All other claims included in the table above have been
recorded to "Unbilled work on uncompleted contracts" included in the "Total
receivables" amount on the balance sheet.

A summary of unapproved claims activity for the three and nine months
ended September 30, 2003 is as follows:

In addition, our unconsolidated related companies include probable
unapproved claims as revenue to determine the amount of profit or loss for their
contracts. Our "Equity in earnings of unconsolidated affiliates" includes our
equity percentage of unapproved claims related to unconsolidated projects
totaling $12 million at September 30, 2003 and $9 million at December 31, 2002.

NOTE 11. COMMITMENTS AND CONTINGENCIES - ASBESTOS AND SILICA

ASBESTOS LITIGATION. Several of our subsidiaries, particularly DII
Industries, LLC (DII Industries) and Kellogg Brown & Root, Inc. (Kellogg Brown &
Root), are defendants in a large number of asbestos-related lawsuits. The
plaintiffs allege injury as a result of exposure to asbestos in products
manufactured or sold by former divisions of DII Industries or in materials used
in construction or maintenance projects of Kellogg Brown & Root.

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These claims are in three general categories:

- refractory claims;
- other DII Industries claims; and
- construction claims.

REFRACTORY CLAIMS. Asbestos was used in a small number of products
manufactured or sold by Harbison-Walker Refractories Company, which DII
Industries acquired in 1967. The Harbison-Walker operations were conducted as a
division of DII Industries (then named Dresser Industries, Inc.) until those
operations were transferred to another then-existing subsidiary of DII
Industries in preparation for a spin-off. Harbison-Walker was spun off by DII
Industries in July 1992. At that time, Harbison-Walker assumed liability for
asbestos claims filed after the spin-off and it agreed to defend and indemnify
DII Industries from liability for those claims, although DII Industries
continues to have direct liability to tort claimants for all post spin-off
refractory asbestos claims. DII Industries retained responsibility for all
asbestos claims pending as of the date of the spin-off. The agreement governing
the spin-off provided that Harbison-Walker would have the right to access DII
Industries historic insurance coverage for the asbestos-related liabilities that
Harbison-Walker assumed in the spin-off. After the spin-off, DII Industries and
Harbison-Walker jointly negotiated and entered into coverage-in-place agreements
with a number of insurance companies that had issued historic general liability
insurance policies which both DII Industries and Harbison-Walker had the right
to access for, among other things, bodily injury occurring between 1963 and
1985. These coverage-in-place agreements provide for the payment of defense
costs, settlements and court judgments paid to resolve refractory asbestos
claims.

As Harbison-Walker's financial condition worsened in late 2000 and
2001, Harbison-Walker began agreeing to pay more in settlement of the post
spin-off refractory claims than it historically had paid. These increased
settlement amounts led to Harbison-Walker making greater demands on the shared
insurance asset. By July 2001, DII Industries determined that the demands that
Harbison-Walker was making on the shared insurance policies were not acceptable
to DII Industries and that Harbison-Walker probably would not be able to fulfill
its indemnification obligation to DII Industries. Accordingly, DII Industries
took up the defense of unsettled post spin-off refractory claims that name it as
a defendant in order to prevent Harbison-Walker from unnecessarily eroding the
insurance coverage both companies access for these claims.

As of September 30, 2003, there were approximately 6,000 open and
unresolved pre-spin-off refractory claims against DII Industries. In addition,
there were approximately 154,000 post spin-off claims that name DII Industries
as a defendant.

OTHER DII INDUSTRIES CLAIMS. As of September 30, 2003, there were
approximately 189,000 open and unresolved claims alleging injuries from asbestos
used in other products formerly manufactured by DII Industries or its
predecessors. Most of these claims involve gaskets and packing materials used in
pumps and other industrial products.

CONSTRUCTION CLAIMS. Our Engineering and Construction Group includes
engineering and construction businesses formerly operated by The M.W. Kellogg
Company and Brown & Root, Inc., now combined as Kellogg Brown & Root. As of
September 30, 2003, there were approximately 86,000 open and unresolved claims
alleging injuries from asbestos in materials used in construction and
maintenance projects, most of which were conducted by Brown & Root, Inc.
Approximately 7,000 of these claims are asserted against The M.W. Kellogg
Company. We believe that Kellogg Brown & Root has a good defense to these
claims, and a prior owner of The M.W. Kellogg Company provides Kellogg Brown &
Root a contractual indemnification for claims against The M.W. Kellogg Company.

HARBISON-WALKER CHAPTER 11 BANKRUPTCY. On February 14, 2002,
Harbison-Walker filed a voluntary petition for reorganization under Chapter 11
of the United States Bankruptcy Code in the Bankruptcy Court in Pittsburgh,
Pennsylvania. In its initial bankruptcy-related filings, Harbison-Walker said
that it would seek to utilize Sections 524(g) and 105 of the Bankruptcy Code to
propose and seek confirmation of a plan of reorganization that would provide for
distributions for all legitimate, pending and future asbestos claims asserted
directly against Harbison-Walker or asserted against DII Industries for which
Harbison-Walker is required to indemnify and defend DII Industries.

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Harbison-Walker's failure to fulfill its indemnity obligations, and its
erosion of insurance coverage shared with DII Industries, required DII
Industries to assist Harbison-Walker in its bankruptcy proceeding in order to
protect the shared insurance from dissipation. On February 14, 2002, in
accordance with the terms of a letter agreement, DII Industries paid $40 million
to Harbison-Walker's United States parent holding company, RHI Refractories
Holding Company. This payment was charged to discontinued operations in our
financial statements in the first quarter of 2002. At the time that
Harbison-Walker filed its bankruptcy, DII Industries agreed to provide up to $35
million of debtor-in-possession financing to Harbison-Walker during the pendency
of the Chapter 11 proceeding if certain conditions were met, of which $5 million
was advanced and expensed during the first quarter of 2002. We funded the
remaining $30 million on July 31, 2003. We recorded a pretax charge of $30
million in "Loss from discontinued operations" in our condensed consolidated
statements of operations for the second quarter 2003, as the
debtor-in-possession financing is expected to be forgiven on the earlier of the
effective date of a plan of reorganization for DII Industries or the effective
date of a plan of reorganization for Harbison-Walker acceptable to DII
Industries.

The terms of the letter agreement also require DII Industries to pay to
RHI Refractories an additional $35 million if a plan of reorganization is
proposed in the Harbison-Walker bankruptcy proceedings, and an additional $85
million if a plan is confirmed in the Harbison-Walker bankruptcy proceedings, in
each case acceptable to DII Industries in its sole discretion. The letter
agreement provides that a plan acceptable to DII Industries must include an
injunction channeling to a Section 524(g)/105 trust all present and future
asbestos claims against DII Industries arising out of the Harbison-Walker
business or other DII Industries' businesses that share insurance with
Harbison-Walker.

Harbison-Walker filed a proposed plan of reorganization on July 31,
2003. However, the proposed plan does not provide for a Section 524(g)/105
injunction for the benefit of DII Industries and other DII Industries businesses
that share insurance with Harbison-Walker, and DII Industries has not consented
to the plan. Although possible, at this time we do not believe it likely that
Harbison-Walker will propose or will be able to confirm a plan of reorganization
in its bankruptcy proceeding that is acceptable to DII Industries within the
meaning of the letter agreement with RHI Refractories.

In general, in order for a Harbison-Walker plan of reorganization
involving a Section 524(g)/105 trust to be confirmed, the plan would need, among
other things, to be structured to provide substantially similar treatment to
current and future asbestos claimants and the creation of the trust would
require the approval of 75% of those asbestos claimant creditors of
Harbison-Walker voting on the plan. A plan also would be subject to completion
of negotiations of material terms and definitive plan documentation with the
asbestos claimants committee, a futures representative for asbestos claimants in
the Harbison-Walker bankruptcy cases and DII Industries. There can be no
assurance that any plan proposed by Harbison-Walker would be structured to meet
the requirements for obtaining an injunction or that Harbison-Walker could
obtain the necessary approval.

As an alternative, DII Industries has entered into a definitive
settlement agreement with Harbison-Walker which would resolve substantially all
of the issues between them. This agreement is subject to court approval in
Harbison-Walker's bankruptcy case. If approved by the court in Harbison-Walker's
bankruptcy case, this agreement would provide for:

- channeling of asbestos and silica personal injury claims against
Harbison-Walker and certain of its affiliates to the trusts
created in the Chapter 11 cases being contemplated for DII
Industries and Kellogg Brown & Root;
- release by Harbison-Walker and its affiliates of any rights in
insurance shared with DII Industries on occurrence of the
effective date of the plan of reorganization for DII Industries;
- release by DII Industries of any right to be indemnified by
Harbison-Walker for asbestos or silica personal injury claims;
- forgiveness by DII Industries of all of Harbison-Walker's
obligations under the debtor-in-possession financing provided by
DII Industries on the earlier of the effective date of a plan of
reorganization for DII Industries or the effective date of a plan
of reorganization for Harbison-Walker acceptable to DII
Industries;

13

- purchase by DII Industries of Harbison-Walker's outstanding
insurance receivables for an amount of approximately $50 million
on the earliest of the effective date of a plan of reorganization
for DII Industries, the effective date of a plan of
reorganization for Harbison-Walker acceptable to DII Industries
or December 31, 2003. We recorded a $10 million allowance in the
third quarter of 2003 for an estimated portion of uncollectible
amounts related to the insurance receivables;
- guarantee of the insurance receivable purchase price by
Halliburton on a subordinated basis; and
- negotiation between the parties on a mutually-agreeable structure
for resolving other products or tort claims.

We do not believe it probable that DII Industries will be obligated to
make either of the additional $35 million or $85 million payments to RHI
Refractories described above because the plan of reorganization filed by
Harbison-Walker on July 31, 2003 in its bankruptcy proceeding would not, if
confirmed, create a Section 524(g) and/or 105 channeling injunction in favor of
DII Industries and because the plan of reorganization filed by Harbison-Walker
is not acceptable to DII Industries within the meaning of the February 14, 2002
letter agreement. RHI A.G., the ultimate corporate parent of RHI Refractories,
has indicated that it believes otherwise, and has announced an intent to take
legal action against us to recover $35 million they believe is presently owing.
On August 8, 2003, we filed a declaratory judgment lawsuit against RHI
Refractories in the District Court of Harris County, Texas, 80th Judicial
District seeking a declaration from the court that we do not owe RHI
Refractories any money pursuant to the letter agreement. On September 12, 2003
RHI Refractories filed a related lawsuit against Halliburton Company and DII
Industries in the Court of Common Pleas of Alleghany County, Pennsylvania.

In July 2003, we also reached agreement with Harbison-Walker and the
asbestos creditors committee in the Harbison-Walker bankruptcy to consensually
extend the period of the stay contained in the bankruptcy court's temporary
restraining order until September 30, 2003. The court's temporary restraining
order, which was originally entered on February 14, 2002, stayed more than
200,000 pending asbestos claims against DII Industries. The stay expired by its
terms on September 30, 2003. Discovery on the claims was stayed until November
1, 2003. Trials on any of the claims that had previously been stayed may
commence as early as January 1, 2004. Notwithstanding expiration of the stay,
asbestos and silica claims against DII Industries will automatically be stayed
if a Chapter 11 filing is made by DII Industries, Kellogg Brown & Root and some
of their subsidiaries with United States operations.

ASBESTOS INSURANCE COVERAGE. DII Industries has substantial insurance
for reimbursement for portions of the costs incurred defending asbestos and
silica claims, as well as amounts paid to settle claims and court judgments.
This coverage is provided by a large number of insurance policies written by
dozens of insurance companies. The insurance companies wrote the coverage over a
period of more than 30 years for DII Industries, its predecessors or its
subsidiaries and their predecessors. Large amounts of this coverage are now
subject to coverage-in-place agreements that resolve issues concerning amounts
and terms of coverage. Coverage-in-place agreements are settlement agreements
between policyholders and the insurers specifying the terms and conditions under
which coverage will be applied as claims are presented for payment. These
agreements in an asbestos claims context govern such things as what events will
be deemed to trigger coverage, how liability for a claim will be allocated among
insurers and what procedures the policyholder must follow in order to obligate
the insurer to pay claims. The amount of insurance available to DII Industries
and its subsidiaries depends on the nature and time of the alleged exposure to
asbestos or silica, the specific subsidiary against which an asbestos or silica
claim is asserted and other factors.

REFRACTORY CLAIMS INSURANCE. DII Industries has approximately $2.1
billion in aggregate limits of insurance coverage for refractory asbestos and
silica claims, of which over one-half is with Equitas or other London-based
insurance companies. Most of this insurance is shared with Harbison-Walker. Many
of the issues relating to the majority of this coverage have been resolved by
coverage-in-place agreements with dozens of companies, including Equitas and
other London-based insurance companies. Beginning in 2001 however, Equitas and
other London-based companies have attempted to impose new restrictive
documentation requirements on DII Industries and other insured. Equitas and the
other London-based companies have stated that the new requirements are part of
an effort to limit payment of settlements to claimants who are truly impaired by
exposure to asbestos and can identify the product or premises that caused their
exposure.

14

On March 21, 2002, Harbison-Walker filed a lawsuit in the United States
Bankruptcy Court for the Western District of Pennsylvania in its Chapter 11
bankruptcy proceeding. This lawsuit is substantially similar to DII Industries
lawsuit filed in Texas State Court in 2001 and seeks, among other relief, a
determination as to the rights of DII Industries and Harbison-Walker to the
shared general liability insurance. The lawsuit also seeks damages against
specific insurers for breach of contract and bad faith, and a declaratory
judgment concerning the insurers' obligations under the shared insurance.
Although DII Industries is also a defendant in this lawsuit, it has asserted its
own claim to coverage under the shared insurance and is cooperating with
Harbison-Walker to secure both companies' rights to the shared insurance. The
parties to the lawsuit have been engaged in non-binding mediation due to an
order from the Bankruptcy Court. Given the early stages of these negotiations,
DII Industries cannot predict whether a negotiated resolution of this dispute
will occur or, if such a resolution does occur, the precise terms of such a
resolution.

Prior to the Harbison-Walker bankruptcy, on August 7, 2001, DII
Industries filed a lawsuit in Dallas County, Texas, against a number of these
insurance companies asserting DII Industries rights under an existing
coverage-in-place agreement and under insurance policies not yet subject to
coverage-in-place agreements. The coverage-in-place agreements allow DII
Industries to enter into settlements for small amounts without requiring
claimants to produce detailed documentation to support their claims, when DII
Industries believes the settlements are an effective claims management strategy.
DII Industries believes that the new documentation requirements are inconsistent
with the current coverage-in-place agreements and are unenforceable. The
insurance companies that DII Industries has sued have not refused to pay larger
claim settlements where documentation is obtained or where court judgments are
entered.

On May 10, 2002, the London-based insuring entities and companies
removed DII Industries' Dallas County State Court Action to the United States
District Court for the Northern District of Texas alleging that federal court
jurisdiction existed over the case because it is related to the Harbison-Walker
bankruptcy. DII Industries has filed an opposition to that removal and has asked
the federal court to remand the case back to the Dallas County state court. On
June 12, 2002, the London-based insuring entities and companies filed a motion
to transfer the case to the federal court in Pittsburgh, Pennsylvania. DII
Industries has filed an opposition to that motion to transfer. The federal court
in Dallas has yet to rule on any of these motions. Regardless of the outcome of
these motions, because of the similar insurance coverage lawsuit filed by
Harbison-Walker in its bankruptcy proceeding, it is unlikely that DII
Industries' case will proceed simultaneously with the insurance coverage case
filed by Harbison-Walker in its bankruptcy.

OTHER DII INDUSTRIES CLAIMS INSURANCE. DII Industries has substantial
insurance to cover other non-refractory asbestos claims. Two coverage-in-place
agreements cover DII Industries for companies or operations that DII Industries
either acquired or operated prior to November 1, 1957. Other insurance coverage
is provided by a number of different policies that DII Industries acquired
rights to access when it acquired businesses from other companies. Three
coverage-in-place agreements provide reimbursement for asbestos claims made
against DII Industries' former Worthington Pump division. There is also other
substantial insurance coverage with approximately $2.0 billion in aggregate
limits that has not yet been reduced to coverage-in-place agreements.

On August 28, 2001, DII Industries filed a lawsuit in the 192nd
Judicial District of the District Court for Dallas County, Texas against
specific London-based insuring entities that issued insurance policies that
provide coverage to DII Industries for asbestos-related liabilities arising out
of the historical operations of Worthington Corporation or its successors. This
lawsuit raises essentially the same issue as to the documentation requirements
as the August 7, 2001 Harbison-Walker lawsuit filed in the same court. The
London-based insuring entities filed a motion in that case seeking to compel the
parties to binding arbitration. The trial court denied that motion and the
London-based insuring entities appealed that decision to the state appellate
court. The state appellate court denied the appeal and, most recently, the
London-based insuring entities have removed the case from the state court to the
federal court. DII Industries was successful in remanding the case back to the
state court.

A significant portion of the insurance coverage applicable to
Worthington claims is alleged by Federal-Mogul Products, Inc. to be shared with
it. In 2001, Federal-Mogul Products, Inc. and a large number of its affiliated
companies filed a voluntary petition for reorganization under Chapter 11 of the
Bankruptcy Code in the Bankruptcy Court in Wilmington, Delaware.

15

In response to Federal-Mogul's allegations, on December 7, 2001, DII
Industries filed a lawsuit in the Delaware Bankruptcy Court asserting its rights
to insurance coverage under historic general liability policies issued to
Studebaker-Worthington, Inc. and its successor for asbestos-related liabilities
arising from, among other operations, Worthington's and its successors' historic
operations. This lawsuit also seeks a judicial declaration concerning the
competing rights of DII Industries and Federal-Mogul, if any, to this insurance
coverage. DII Industries recently filed a third amended complaint in that
lawsuit and the parties are engaged in the discovery process and summary
judgment briefing. The parties to this litigation, including Federal-Mogul, have
agreed to mediate this dispute. Unlike the Harbison-Walker insurance coverage
litigation, in which the litigation is stayed while the mediation proceeds, the
insurance coverage litigation concerning the Worthington-related asbestos
liabilities has not been stayed and such litigation is proceeding simultaneously
with the mediation.

At the same time, DII Industries filed its insurance coverage action in
the Federal-Mogul bankruptcy, DII Industries also filed a second lawsuit in
which it has filed a motion for preliminary injunction seeking a stay of all
Worthington asbestos-related lawsuits against DII Industries that are scheduled
for trial within the six months following the filing of the motion. The stay
that DII Industries seeks, if granted, would remain in place until the competing
rights of DII Industries and Federal-Mogul to the allegedly shared insurance are
resolved. The Court has yet to schedule a hearing on DII Industries' motion for
preliminary injunction. Notwithstanding what the Court rules on the stay, all
Worthington asbestos-related lawsuits against DII Industries will automatically
be stayed if a Chapter 11 filing is made by DII Industries, Kellogg Brown & Root
and some of their subsidiaries with United States operations.

A number of insurers who have agreed to coverage-in-place agreements
with DII Industries have suspended payment under the shared Worthington policies
until the Federal-Mogul Bankruptcy Court resolves the insurance issues.
Consequently, the effect of the Federal-Mogul bankruptcy on DII Industries
rights to access this shared insurance is uncertain.

CONSTRUCTION CLAIMS INSURANCE. Nearly all of our construction asbestos
claims relate to Brown & Root, Inc. operations before the 1980s. Our primary
insurance coverage for these claims was written by Highlands Insurance Company
(Highlands) during the time it was one of our subsidiaries. Highlands was spun
off to our shareholders in 1996. On April 5, 2000, Highlands filed a lawsuit
against us in the Delaware Chancery Court. Highlands asserted that the insurance
it wrote for Brown & Root, Inc. that covered construction asbestos claims was
terminated by agreements between Halliburton and Highlands at the time of the
1996 spin-off. In March 2001, the Chancery Court ruled that a termination did
occur and that Highlands was not obligated to provide coverage for Brown & Root,
Inc.'s asbestos claims. This decision was affirmed by the Delaware Supreme Court
on March 13, 2002. As a result of this ruling, we wrote off approximately $35
million in accounts receivable for amounts paid for claims and defense costs and
$45 million of accrued receivables in relation to estimated insurance recoveries
claims settlements from Highlands in the first quarter 2002. In addition, we
dismissed the April 24, 2000 lawsuit we filed against Highlands in Harris
County, Texas.

As a consequence of the Delaware Supreme Court's decision, Kellogg
Brown & Root no longer has primary insurance coverage from Highlands for
asbestos claims. However, Kellogg Brown & Root has significant excess insurance
coverage. The amount of this excess coverage that will reimburse us for an
asbestos claim depends on a variety of factors. On March 20, 2002, Kellogg Brown
& Root filed a lawsuit in the 172nd Judicial District of the District Court of
Jefferson County, Texas, against Kellogg Brown & Root's historic insurers that
issued these excess insurance policies. In the lawsuit, Kellogg Brown & Root
seeks to establish the specific terms under which it can seek reimbursement for
costs it incurs in settling and defending asbestos claims from its historic
construction operations. On January 6, 2003, this lawsuit was transferred to the
11th Judicial District of the District Court of Harris County, Texas, and the
parties are engaged in the discovery process. Until this lawsuit is resolved,
the scope of the excess insurance will remain uncertain, and as such we have not
assumed any recoveries from excess insurance coverage. We do not expect the
excess insurers will reimburse us for asbestos claims until this lawsuit is
resolved.

SIGNIFICANT ASBESTOS JUDGMENTS ON APPEAL. During 2001, there were
several adverse judgments in trial court proceedings that are in various stages
of the appeal process. All of these judgments concern asbestos claims involving
Harbison-Walker refractory products. Each of these lawsuits is included in the
proposed asbestos and silica settlement.

16

On November 29, 2001, the Texas District Court in Orange, Texas,
entered judgments against Dresser Industries, Inc. (now DII Industries) on a $65
million jury verdict rendered in September 2001 in favor of five plaintiffs. The
$65 million amount includes $15 million of a $30 million judgment against DII
Industries and another defendant. DII Industries is jointly and severally liable
for the other $15 million of the $30 million judgment, in addition to the $65
million if the other defendant does not pay its share of this judgment. Based
upon what we believe to be controlling precedent, which would hold that the
judgment entered is void, we believe that the likelihood of the judgment being
affirmed in the face of DII Industries' appeal is remote. As a result, we have
not accrued any amounts for this judgment. However, a favorable outcome from the
appeal is not assured.

On November 29, 2001, the same District Court in Orange, Texas, entered
three additional judgments against Dresser Industries, Inc. (now DII Industries)
in the aggregate amount of $35.7 million in favor of 100 other asbestos
plaintiffs. These judgments relate to an alleged breach of purported settlement
agreements signed early in 2001 by a New Orleans lawyer hired by
Harbison-Walker, which had been defending DII Industries pursuant to the
agreement by which Harbison-Walker was spun off by DII Industries in 1992. These
settlement agreements expressly bind Harbison-Walker Refractories Company as the
obligated party, not DII Industries, which is not a party to the agreements. For
that reason, and based upon what we believe to be controlling precedent, which
would hold that the judgment entered is void, we believe that the likelihood of
the judgment being affirmed in the face of DII Industries' appeal is remote. As
a result, we have not accrued any amounts for this judgment. However, a
favorable outcome from the appeal is not assured.

On December 5, 2001, a jury in the Circuit Court for Baltimore County,
Maryland, returned verdicts against Dresser Industries, Inc. (now DII
Industries) and other defendants following a trial involving refractory asbestos
claims. Each of the five plaintiffs alleges exposure to Harbison-Walker
products. DII Industries portion of the verdicts was approximately $30 million,
which we fully accrued in 2002. DII Industries intends to appeal the judgment to
the Maryland Supreme Court. While we believe we have a valid basis for appeal
and intend to vigorously pursue our appeal, any favorable outcome from that
appeal is not assured.

On October 25, 2001, in the Circuit Court of Holmes County,
Mississippi, a jury verdict of $150 million was rendered in favor of six
plaintiffs against Dresser Industries, Inc. (now DII Industries) and two other
companies. DII Industries share of the verdict was $21.3 million which we fully
accrued in 2002. The award was for compensatory damages. The jury did not award
any punitive damages. The trial court has entered judgment on the verdict. While
we believe we have a valid basis for appeal and intend to vigorously pursue our
appeal, any favorable outcome from that appeal is not assured.

ASBESTOS CLAIMS HISTORY. Since 1976, approximately 671,000 asbestos
claims have been filed against us. Almost all of these claims have been made in
separate lawsuits in which we are named as a defendant along with a number of
other defendants, often exceeding 100 unaffiliated defendant companies in total.
The approximate number of open claims pending against us is as follows:

During the third quarter of 2003, we received approximately 10,000 new
claims and we closed approximately 380 claims. We believe that in many cases,
single claimants are filing claims against multiple Halliburton entities, and we
believe that the actual number of additional claimants is about half of the
number of new claims. If and when we confirm duplicate claims, we will adjust
our data accordingly. We believe of the 435,000 open claims as of September 30,
2003, these represent claims made by approximately 345,000 separate claimants.

17

The total open claims include post spin-off Harbison-Walker refractory
related claims that name DII Industries as a defendant. All such claims have
been factored into the calculation of our asbestos liability. The approximate
number of post spin-off Harbison-Walker claims included in total open claims
pending against us is as follows:

We manage asbestos claims to achieve settlements of valid claims for
reasonable amounts. When reasonable settlement is not possible, we contest
claims in court. Since 1976, we have closed approximately 236,000 claims through
settlements and court proceedings at a total cost of approximately $220 million.
We have received or expect to receive from our insurers all but approximately
$107 million of this cost, resulting in an average net cost per closed claim of
about $451.

ASBESTOS STUDY AND THE VALUATION OF UNRESOLVED CURRENT AND FUTURE
ASBESTOS CLAIMS.

Asbestos Study. In late 2001, DII Industries retained Dr. Francine F.
Rabinovitz of Hamilton, Rabinovitz & Alschuler, Inc. to estimate the probable
number and value, including defense costs, of unresolved current and future
asbestos and silica-related bodily injury claims asserted against DII Industries
and its subsidiaries. Dr. Rabinovitz is a nationally renowned expert in
conducting such analyses, has been involved in a number of asbestos-related and
other toxic tort-related valuations of current and future liabilities, has
served as the expert for three representatives of future claimants in asbestos
related bankruptcies and has had her valuation methodologies accepted by
numerous courts. Further, the methodology utilized by Dr. Rabinovitz is the same
methodology that is utilized by the expert who is routinely retained by the
asbestos claimants committee in asbestos-related bankruptcies. Dr. Rabinovitz
estimated the probable number and value of unresolved current and future
asbestos and silica-related bodily injury claims asserted against DII Industries
and its subsidiaries over a 50 year period. The report took approximately seven
months to complete.

Methodology. The methodology utilized by Dr. Rabinovitz to project DII
Industries and its subsidiaries' asbestos- and silica-related liabilities and
defense costs relied upon and included:

- an analysis of DII Industries, Kellogg Brown & Root's and
Harbison-Walker Refractories Company's historical asbestos and
silica settlements and defense costs to develop average
settlement values and average defense costs for specific
asbestos- and silica-related diseases and for the specific
business operation or entity allegedly responsible for the
asbestos- and silica-related diseases;
- an analysis of DII Industries, Kellogg Brown & Root's and
Harbison-Walker Refractories Company's pending inventory of
asbestos- and silica-related claims by specific diseases and by
the specific business operation or entity allegedly responsible
for the disease;
- an analysis of the claims filing history for asbestos- and
silica-related claims against DII Industries, Kellogg Brown &
Root and Harbison-Walker Refractories Company for the approximate
two-year period from January 2000 to May 31, 2002, and for the
approximate five-year period from January 1997 to May 31, 2002 by
specific disease and by business operation or entity allegedly
responsible for the disease;
- an analysis of the population likely to have been exposed or
claim exposure to products manufactured by DII Industries, its
predecessors and Harbison-Walker or to Brown & Root construction
and renovation projects; and

18

- epidemiological studies to estimate the number of people who
might allege exposure to products manufactured by DII Industries,
its predecessors and Harbison-Walker or to Brown & Root
construction and renovation projects who would be likely to
develop asbestos- and silica-related diseases. Dr. Rabinovitz's
estimates are based on historical data supplied by DII
Industries, Kellogg Brown & Root and Harbison-Walker and publicly
available studies, including annual surveys by the National
Institutes of Health concerning the incidence of mesothelioma
deaths.

In her estimates, Dr. Rabinovitz relied on the source data provided by
our management; she did not independently verify the accuracy of the source
data. The source data provided by us was based on our 24-year history in
gathering claimant information and defending and settling asbestos and silica
claims.

In her analysis, Dr. Rabinovitz projected that the elevated and
historically unprecedented rate of claim filings of the last several years
(particularly in 2000 and 2001), especially as expressed by the ratio of
nonmalignant claim filings to malignant claim filings, would continue into the
future for five more years. After that, Dr. Rabinovitz projected that the ratio
of nonmalignant claim filings to malignant claim filings will gradually decrease
for a 10 year period ultimately returning to the historical claiming rate and
claiming ratio. In making her calculation, Dr. Rabinovitz alternatively assumed
a somewhat lower rate of claim filings, based on an average of the last five
years of claims experience, would continue into the future for five more years
and decrease thereafter.

Other important assumptions utilized in Dr. Rabinovitz's estimates,
which we relied upon in making our accrual are:

- there will be no legislative or other systemic changes to the
tort system;
- that we will continue to aggressively defend against asbestos and
silica claims made against us;
- an inflation rate of 3% annually for settlement payments and an
inflation rate of 4% annually for defense costs; and
- we would receive no relief from our asbestos obligation due to
actions taken in the Harbison-Walker bankruptcy.

Range of Liabilities. Based upon her analysis, Dr. Rabinovitz estimated
total, undiscounted asbestos and silica liabilities, including defense costs, of
DII Industries, Kellogg Brown & Root and some of their current and former
subsidiaries. Through 2052, Dr. Rabinovitz estimated the current and future
total undiscounted liability for personal injury asbestos and silica claims,
including defense costs, would be a range between $2.2 billion and $3.5 billion
(which includes payments related to the claims as of June 30, 2002 pending at
that time). The lower end of the range is calculated by using an average of the
last five years of asbestos claims experience and the upper end of the range is
calculated using the more recent two-year elevated rate of asbestos claim
filings in projecting the rate of future claims.

2nd Quarter 2002 Accrual. Based on that estimate, in the second quarter
of 2002, we accrued asbestos and silica claims liability and defense costs for
both known outstanding and future refractory, other DII Industries, and
construction asbestos and silica claims using the low end of the range of Dr.
Rabinovitz's study, or approximately $2.2 billion. In establishing our liability
for asbestos, we included all post spin-off claims against Harbison-Walker that
name DII Industries as a defendant. Our accruals were based on an estimate of
personal injury asbestos claims through 2052 based on the average claims
experience of the last five years. At the end of the second quarter of 2002, we
did not believe that any point in the expert's range was better than any other
point, and accordingly, based our accrual on the low end of the range.

AGREEMENT REGARDING PROPOSED ASBESTOS AND SILICA SETTLEMENT. In
December 2002, we reached an agreement in principle that, if and when
consummated, would result in a settlement of asbestos and silica personal injury
claims against our subsidiaries DII Industries and Kellogg Brown & Root and
their current and former subsidiaries with United States operations.
Subsequently, DII Industries and Kellogg Brown & Root entered into definitive
written agreements finalizing the terms of the agreements in principle with
attorneys representing more than 90% of the current asbestos and silica
claimants.

The definitive agreements provide that:

- up to $2.775 billion in cash, 59.5 million Halliburton shares
(valued at $1.4 billion using the stock price at September 30,
2003 of $24.25) and notes with a net present value of less than
$100 million will be paid to one or more trusts for the benefit
of current and future asbestos and silica personal injury
claimants upon receiving final and non-appealable court
confirmation of a plan of reorganization;

19

- DII Industries and Kellogg Brown & Root will retain rights to the
first $2.3 billion of any insurance proceeds with any proceeds
received between $2.3 billion and $3 billion going to the trust;
- the agreement is to be implemented through a pre-packaged filing
under Chapter 11 of the United States Bankruptcy Code for DII
Industries, Kellogg Brown & Root and some of the subsidiaries
with United States operations; and
- the funding of the settlement amounts would occur upon receiving
final and non-appealable court confirmation of a plan of
reorganization for DII Industries and Kellogg Brown & Root and
some of their subsidiaries with United States operations in the
Chapter 11 proceeding.

Among the prerequisites for concluding the proposed settlement are:

- completion of our review of the current claims to establish that
the claimed injuries resulted from exposure to products of DII
Industries, Kellogg Brown & Root or their subsidiaries or former
businesses or subsidiaries (Product ID due diligence);
- completion of our medical review of the injuries alleged to have
been sustained by plaintiffs to establish a medical basis for
payment of settlement amounts;
- continued availability of financing, in addition to the proceeds
of our recent offerings of $1.2 billion principal amount of
convertible senior notes and $1.05 billion principal amount of
senior notes, for the proposed settlement on terms acceptable to
us to fund the cash amounts to be paid in the settlement;
- obtaining approval of a plan of reorganization from at least the
required 75% of known present asbestos claimants and from a
majority of known present silica claimants in order to complete
the plan of reorganization;
- Halliburton board approval; and
- obtaining final and non-appealable bankruptcy court approval and
federal district court confirmation of the plan of
reorganization.

Many of these prerequisites are subject to matters and uncertainties
beyond our control. There can be no assurance that we will be able to satisfy
the prerequisites for completion of the settlement. If we were unable to
complete the proposed settlement, we would be required to resolve current and
future asbestos claims in the tort system or, in the case of Harbison-Walker
claims, possibly through the Harbison-Walker bankruptcy proceedings.

Disclosure Statement and Plan of Reorganization. In September 2003, DII
Industries, Kellogg Brown & Root and other affected Halliburton subsidiaries
began the solicitation process in connection with the planned asbestos and
silica settlement. A disclosure statement, which incorporates and describes the
Chapter 11 plan of reorganization and trust distribution procedures, has been
mailed to asbestos and silica claimants for the purpose of soliciting votes to
approve the plan of reorganization prior to filing a Chapter 11 proceeding.

As a result of an increase in the estimated number of current asbestos
claims, our estimate of the aggregate value of all claims before due diligence
considerations is $3.085 billion. In early November 2003, we reached an
agreement in principle to limit the cash required to settle pending asbestos and
silica claimants currently subject to definitive agreements to $2.775 billion.
Under the agreement in principle, if at the completion of medical due diligence
for current claims, the cash amounts provided under the current settlement
agreements is greater than $2.775 billion, the total cash payment to each
claimant would be reduced pro rata so that the aggregate of payments would not
exceed $2.775 billion.

DII Industries, Kellogg Brown & Root and our other affected
subsidiaries are preparing a supplement to the disclosure statement mailed in
late September for circulation to known current claimants for the purpose of
soliciting acceptances of a revised plan of reorganization that incorporates the
revised terms to effect the agreement in principle. The additional time needed
to solicit acceptances to the revised plan of reorganization will likely delay
any Chapter 11 filing until sometime in December, assuming that the necessary
acceptances are promptly received and the remaining product identification due
diligence is timely provided. The agreement in principle is conditioned on a
Chapter 11 filing on or before December 31, 2003.

The terms of this revised settlement still must be approved by 75% of
known present asbestos claimants. Despite reaching the agreement in principle,
there can be no assurance that such approval will be obtained, that all members
of the asbestos claimants committee and other lawyers representing affected
claimants will support the revised settlement or that claimants represented by
members of the asbestos claimants committee and other affected claimants will
vote in favor of the revised plan of reorganization.

20

Our agreement in principle reached in early November 2003 provides that
of the cash amount included as part of the proposed settlement, two-thirds of
approximately $486 million, or $326 million, of the $2.775 billion cash amount
would be paid on the earlier of (a) five days prior to the anticipated Chapter
11 filing by the affected Halliburton subsidiaries and (b) December 31, 2003, so
long as product identification due diligence information on those claims has
been timely provided and we believe that a satisfactory number of claimants have
provided acceptances to the proposed plan of reorganization prior to time for
payment. Subject to proration, the remaining one-third of these claims will be
guaranteed by Halliburton and paid on the earlier of (x) six months after a
Chapter 11 filing and (y) the date on which the order confirming the proposed
plan of reorganization becomes final and non-appealable.

We are continuing our due diligence review of current asbestos claims
to be included in the proposed settlement. We have received in excess of 80% of
the necessary files related to medical evidence and we have reviewed
substantially all of the information provided. Product ID due diligence has not
moved as rapidly as the medical due diligence. However, we continue to review
medical and product ID information, and although there are no guarantees, we
expect as the time for filing approaches, the interests of the claimants in
consummating the settlement will result in us receiving the information
necessary to proceed. The representatives of the current claimants have agreed
to accelerate their submission of remaining medical and product identification
due diligence information.

The settlement agreements with attorneys representing current asbestos
claimants grant the attorneys a right to terminate their definitive agreement on
ten days' notice. While no right to terminate any settlement agreement has been
exercised to date, there can be no assurance that claimants' attorneys will not
exercise their right to terminate the settlement agreements.

Legislative proposals for asbestos reform are pending in the United
States Congress. While Halliburton's management intends to recommend to its
Board that Halliburton pursue the proposed settlement in lieu of possible
legislation, in determining whether to approve the proposed settlement and
proceed with the Chapter 11 filing of DII Industries and Kellogg Brown & Root
and some of their subsidiaries with United States operations, the Halliburton
Board of Directors will take into account the then-current status of these
legislative initiatives.

4th Quarter 2002 increase in accrual. As a result of the proposed
settlement, in the fourth quarter of 2002, we re-evaluated our accruals for
known outstanding and future asbestos claims. Although we have reached an
agreement with respect to a proposed settlement, we do not believe the
settlement is "probable" under Statement of Financial Standards ("SFAS") No. 5
at the current time.

Because we do not believe the settlement is currently probable as
defined by SFAS No. 5, we have continued to establish our accruals in accordance
with the analysis performed by Dr. Rabinovitz. However, as a result of the
settlement and the payment amounts contemplated thereby, we believed it
appropriate to adjust our accrual to use the upper end of the range of probable
and reasonably estimable liabilities for current and future asbestos liabilities
contained in Dr. Rabinovitz's study, which estimated liabilities through 2052
and assumed the more recent two-year elevated rate of claim filings in
projecting the rate of future claims.

As a result, in the fourth quarter of 2002, we determined that the best
estimate of the probable loss is the $3.5 billion estimate in Dr. Rabinovitz's
study, and accordingly, we increased our accrual for probable and reasonably
estimable liabilities for current and future asbestos and silica claims to $3.4
billion.

INSURANCE. In 2002, we retained Peterson Consulting, a
nationally-recognized consultant in asbestos liability and insurance, to work
with us to project the amount of insurance recoveries probable in light of the
projected current and future liabilities accrued by us. Using Dr. Rabinovitz's
projection of liabilities through 2052 using the two-year elevated rate of
asbestos claim filings, Peterson Consulting assisted us in conducting an
analysis to determine the amount of insurance that we estimate is probable that
we will recover in relation to the projected claims and defense costs. In
conducting this analysis, Peterson Consulting:

- reviewed DII Industries historical course of dealings with its
insurance companies concerning the payment of asbestos-related
claims, including DII Industries 15 year litigation and
settlement history;

21

- reviewed our insurance coverage policy database containing
information on key policy terms as provided by outside counsel;
- reviewed the terms of DII Industries prior and current
coverage-in-place settlement agreements;
- reviewed the status of DII Industries and Kellogg Brown & Root's
current insurance-related lawsuits and the various legal
positions of the parties in those lawsuits in relation to the
developed and developing case law and the historic positions
taken by insurers in the earlier filed and settled lawsuits;
- engaged in discussions with our counsel; and
- analyzed publicly-available information concerning the ability of
the DII Industries insurers to meet their obligations.

Based on review, analyses and discussions, Peterson Consulting assisted
us in making judgments concerning insurance coverage that we believe are
reasonable and consistent with our historical course of dealings with our
insurers and the relevant case law to determine the probable insurance
recoveries for asbestos liabilities. This analysis factored in the probable
effects of self-insurance features, such as self-insured retentions, policy
exclusions, liability caps and the financial status of applicable insurers, and
various judicial determinations relevant to the applicable insurance programs.
The analysis of Peterson Consulting is based on its best judgment and
information provided by us.

Probable insurance recoveries. Based on our analysis of the probable
insurance recoveries, in the second quarter of 2002, we recorded a receivable of
$1.6 billion for probable insurance recoveries.

In connection with our adjustment of our accrual for asbestos liability
and defense costs in the fourth quarter of 2002, Peterson Consulting assisted us
in re-evaluating our receivable for insurance recoveries deemed probable through
2052, assuming $3.5 billion of liabilities for current and future asbestos
claims using the same factors cited above through 2052. Based on Peterson
Consulting analysis of the probable insurance recoveries, we increased our
insurance receivable to $2.1 billion as of the fourth quarter of 2002. The
insurance receivable recorded by us does not assume any recovery from insolvent
carriers and assumes that those carriers which are currently solvent will
continue to be solvent throughout the period of the applicable recoveries in the
projections. However, there can be no assurance that these assumptions will be
correct. These insurance receivables do not exhaust the applicable insurance
coverage for asbestos-related liabilities.

ACCOUNTING SUMMARY. The current accrual of $3.4 billion for probable
and reasonably estimable liabilities for current and future asbestos and silica
claims and the $2.1 billion in insurance receivables are included in noncurrent
assets and liabilities due to the extended time periods involved to settle
claims. In the second quarter of 2002, we recorded a pretax charge of $483
million ($391 million after tax), and, in the fourth quarter of 2002, we
recorded a pretax charge of $799 million ($675 million after tax).

In the fourth quarter of 2002, we recorded pretax charges of $232
million ($212 million after tax) for claims related to Brown & Root construction
and renovation projects under the Engineering and Construction Group segment.
The balance of $567 million ($463 million after tax) related to claims
associated with businesses no longer owned by us and was recorded as
discontinued operations. The low effective tax rate on the asbestos charge is
due to the recording of a valuation allowance against the United States Federal
deferred tax asset associated with the accrual as the deferred tax asset may not
be fully realizable based upon future taxable income projections.

The total estimated claims through 2052, including the 435,000 current
open claims, are approximately one million. A summary of our accrual for all
claims and corresponding insurance recoveries is as follows:

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Accounts receivable for billings to insurance companies for payments
made on asbestos claims were $41 million at September 30, 2003 and $44 million
at December 31, 2002. The $44 million at December 31, 2002 excludes $35 million
in accounts receivable written off at the conclusion of the Highlands
litigation.

Possible additional accruals. When and if the currently proposed
settlement becomes probable under Statement of Financial Accounting Standards
No. 5, we would increase our accrual for probable and reasonably estimable
liabilities for current and future asbestos claims up to approximately $4.4
billion, reflecting the amount in cash and notes we would pay to fund the
settlement combined with the value of 59.5 million shares of Halliburton common
stock, a value of $1.4 billion, using the stock price at September 30, 2003 of
$24.25. As a result we would expect to record an additional pretax charge of
approximately $1 billion. The tax benefit from this charge will be relatively
small, as we will set up a valuation allowance for much of the loss
carryforward. In addition, we may enter into agreements with all or some of our
insurance carriers to negotiate an overall accelerated payment of anticipated
insurance proceeds. If this were to happen, we would expect to adjust our
insurance receivables based upon those agreements.

CONTINUING REVIEW. Projecting future events is subject to many
uncertainties that could cause the asbestos- and silica-related liabilities and
insurance recoveries to be higher or lower than those projected and booked such
as:

- the number of future asbestos- and silica-related lawsuits to be
filed against DII Industries and Kellogg Brown & Root;
- the average cost to resolve such future lawsuits;
- coverage issues among layers of insurers issuing different
policies to different policyholders over extended periods of
time;
- the impact on the amount of insurance recoverable in light of the
Harbison-Walker and Federal-Mogul bankruptcies; and
- the continuing solvency of various insurance companies.

Given the inherent uncertainty in making future projections, we plan to
have the projections of current and future asbestos and silica claims
periodically reexamined, and we will update them if needed based on our
experience and other relevant factors such as changes in the tort system, the
resolution of the bankruptcies of various asbestos defendants and the
probability of our settlement of all claims becoming effective. Similarly, we
will re-evaluate our projections concerning our probable insurance recoveries in
light of any updates to Dr. Rabinovitz's projections, developments in DII
Industries and Kellogg Brown & Root's various lawsuits against its insurance
companies and other developments that may impact the probable insurance.

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NOTE 12. COMMITMENTS AND CONTINGENCIES - EXCLUDING ASBESTOS AND SILICA

BARRACUDA-CARATINGA PROJECT. In June 2000, KBR entered into a contract
with the project owner, Barracuda & Caratinga Leasing Company B.V., to develop
the Barracuda and Caratinga crude oil fields, which are located off the coast of
Brazil. The construction manager and owner's representative is Petroleo
Brasilero SA (Petrobras), the Brazilian national oil company. When completed,
the project will consist of two converted supertankers which will be used as
floating production, storage and offloading units, or FPSOs, 32 hydrocarbon
production wells, 22 water injection wells and all sub-sea flow lines,
umbilicals and risers necessary to connect the underwater wells to the FPSOs.

KBR's performance under the contract is secured by:

- performance letters of credit, which together have an available
credit of approximately $266 million as of September 30, 2003 and
which represent approximately 10% of the contract amount, as
amended to date by change orders;
- retainage letters of credit, which together have available credit
of approximately $152 million as of September 30, 2003 and which
will increase in order to continue to represent 10% of the
cumulative cash amounts paid to KBR; and
- a guarantee of KBR's performance of the agreement by Halliburton
Company in favor of the project owner.

In the event that KBR is alleged to be in default under the contract,
the project owner may assert a right to draw upon the letters of credit. If the
letters of credit were to be drawn, KBR would be required to fund the amount of
the draw to the issuing banks. To the extent KBR cannot fund the amount of the
draw, Halliburton would be required to do so, which could have a material
adverse effect on Halliburton's financial condition and results of operations.
The master letter of credit facility described in the Liquidity and Capital
Resources section of Management's Discussion and Analysis of Financial Condition
and Results of Operations, provided it becomes effective, will override the
reimbursement or cash collateral requirements for the period specified in that
agreement.

In addition, the proposed Chapter 11 pre-packaged bankruptcy filing by
KBR in connection with the proposed settlement of its asbestos claims would
constitute an event of default under the contract that would allow the owner
(with the approval of the lenders financing the project) to assert a right to
draw the letters of credit unless waivers are obtained. The proposed Chapter 11
filing would also constitute an event of default under the owner's loan
agreements with the lenders that would allow the lenders to cease funding the
project. We believe that it is unlikely that the owner will make a draw on the
letters of credit as a result of the proposed Chapter 11 filing. We also believe
it is unlikely that the lenders will exercise any right to cease funding the
project given the current status of the project and the fact that a failure to
pay KBR may allow KBR to cease work on the project without Petrobras having a
readily available substitute contractor. However, there can be no assurance that
the lenders will continue to fund the project or that the owner will not require
funding of the letters of credit by KBR.

In the event that KBR was determined after an arbitration proceeding to
have been in default under the contract with Petrobras, and if the project was
not completed by KBR as a result of such default (i.e., KBR's services are
terminated as a result of such default), the project owner may seek direct
damages (including completion costs in excess of the contract price and interest
on borrowed funds, but excluding consequential damages) against KBR for up to
$500 million plus the return of up to $300 million in advance payments
previously received by KBR to the extent they have not been repaid. The original
contract terms require repayment of the $300 million in advance payments by
crediting the last $350 million of our invoices to Petrobras related to the
contract by that amount.

In addition to the amounts described above, KBR may have to pay
liquidated damages if the project is delayed beyond the original contract
completion date. KBR expects that the project will likely be completed at least
16 months later than the original contract completion date. Although KBR
believes that the project's delay is due primarily to the actions of the project
owner, in the event that any portion of the delay is determined to be
attributable to KBR and any phase of the project is completed after the
milestone dates specified in the contract, KBR could be required to pay
liquidated damages. These damages would be calculated on an escalating basis of
approximately $1 million per day of delay caused by KBR, subject to a total cap
on liquidated damages of 10% of the final contract amount (yielding a cap of
approximately $266 million as of September 30, 2003).

24

Finally, we may be required to pay additional value added taxes ("VAT")
related to the Barracuda-Caratinga project of up to $293 million that may be due
or become due on the project. We believe that we are entitled under applicable
law to collect VAT tax on the value of the project from Petrobras upon turn over
of the project to the project owner, and that we will be entitled to a credit
for VAT taxes we have paid. Petrobras and the project owner are contesting the
reimbursability of up to $227 million of these potential VAT taxes. In addition,
KBR is of the view that virtually all of the VAT tax chargeable to the project
is the result of a change in tax law after the contract was signed. The contract
provides that Kellogg Brown & Root is responsible for taxes in effect on the
contract date, but will be reimbursed for increased costs due to changes in the
tax laws that occur after the date of the contract. The parties agree that
certain changes in the tax laws occurred after the date of the contract, but do
not agree on how much of the increase in taxes was due to that change or which
party is responsible for ultimately paying these taxes. While Kellogg Brown &
Root does not agree, up to $144 million in VAT taxes may already be due on the
project. Up to approximately $100 million of VAT taxes may be due in stages from
November 2003 through April 2004, with the balance due in stages later in 2004.
Depending on when the VAT taxes are deemed due and when they are paid, penalties
and interest on the taxes of between $40-$100 million may also be due, the
reimbursability of which the project owner may also contest.

As of September 30, 2003, the project was approximately 78% complete
and KBR had recorded a pretax loss of $345 million related to the project. The
probable unapproved claims included in determining the loss on the project were
$182 million as of September 30, 2003. The claims for the project most likely
will not be settled within one year. Accordingly, based upon the costs incurred
on the claims, probable unapproved claims of $157 million at September 30, 2003
have been recorded to long-term unbilled work on uncompleted contracts. Those
amounts are included in "Other assets, net" on the balance sheet. KBR has
asserted claims for compensation substantially in excess of $182 million. The
project owner, through its project manager, Petrobras, has denied responsibility
for all such claims. Petrobras has, however, issued formal change orders worth
approximately $61 million which are separate from the $182 million in probable
unapproved claims.

In June 2003, Halliburton, KBR and Petrobras, on behalf of the project
owner, entered into a non-binding heads of agreement that would resolve some of
the disputed issues between the parties, subject to final agreement and lender
approval. The original completion date for the Barracuda project was December
2003 and the original completion date for the Caratinga project was April 2004.
Under the heads of agreement, the project owner would grant an extension of time
to the original completion dates and other milestone dates that averages
approximately 12 months, delay any attempt to assess the original liquidated
damages against KBR for project delays beyond 12 months and up to 18 months,
delay any drawing of letters of credit with respect to such liquidated damages
and delay the return of any of the $300 million in advance payments until after
arbitration. The heads of agreement also provides for a separate liquidated
damages calculation of $450,000 per day for each of the Barracuda and the
Caratinga vessels if delayed beyond 18 months from the original schedule
(subject to the total cap on liquidated damages of 10% of the final contract
amount). The heads of agreement does not delay the drawing of letters of credit
for these liquidated damages. The extension of the original completion dates and
other milestones would significantly reduce the likelihood of KBR incurring
liquidated damages on the project. Nevertheless, KBR continues to have exposure
for substantial liquidated damages for delays in the completion of the project.

Under the heads of agreement, the project owner has agreed to pay $69
million of KBR's disputed claims (which are included in the $182 million of
probable unapproved claims as of September 30, 2003) and to arbitrate additional
claims. The maximum recovery from the claims to be arbitrated would be capped at
$375 million. The heads of agreement also allows the project owner or Petrobras
to arbitrate additional claims against KBR, not including liquidated damages,
the maximum recovery from which would be capped at $380 million. KBR believes
the claims made to date by the project owner are based on a delay in project
completion. KBR's contract with the project owner excludes consequential damages
and, as indicated above, provides for liquidated damages in the event of delay
in completion of the project. While there can be no assurance that the
arbitrator will agree, KBR believes if it is determined that KBR is liable for
delays, the project owner would be entitled to liquidated damages in amounts up
to those referred to above and not to an additional $380 million.

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The finalization of the heads of agreement is subject to project lender
approval. The parties have been in negotiations with the lenders and based on
these negotiations have agreed to certain modifications to the original terms of
the heads of agreement to conform to the lenders' requirements. They have agreed
that the $300 million in advance payments would be due on the earliest of
December 7, 2004, the completion of any arbitration or the resolution of all
claims between the project owner and KBR. Likewise, the project owner's
obligation to defer drawing letters of credit with respect to liquidated damages
for the delays between 12 and 18 months would extend only until December 7,
2004. The negotiations with the lenders have been completed and the final
agreements have been sent to the lenders for their approval and signature. We
are also awaiting signature from Petrobras on the final agreement. While we
believe the lenders have an incentive to approve the final agreement and
complete the financing of the project, and the parties have agreed to the
modifications described above to secure the lenders' approval, there is no
assurance that the lenders will approve the final agreement. If the lenders do
not sign the final agreements, Petrobras may be forced to secure other funding
to complete the project. There is no assurance that Petrobras will pursue or
will be able to secure such funding. Absent completion of the final agreement,
KBR could be subject to additional liquidated damages and other claims, be
subject to the letters of credit being drawn and be required to return the $300
million in advance payments.

The project owner has procured project finance funding obligations from
various lenders to finance the payments due to KBR under the contract. The
project owner currently has no other committed source of funding on which we can
necessarily rely other than the project finance funding for the project. If the
lenders cease to fund the project, the project owner may not have the ability to
continue to pay KBR for its services. The original loan documents provide that
the lenders are not obligated to continue to fund the project if the project has
been delayed for more than six months. In November 2002, the lenders agreed to
extend the six-month period to 12 months. Other provisions in the loan documents
may provide for additional time extensions. However, delays beyond 12 months may
require lender consent in order to obtain additional funding. While we believe
the lenders have an incentive to complete the financing of the project, there is
no assurance that they would do so. If the lenders did not consent to extensions
of time or otherwise ceased funding the project, we believe that Petrobras would
provide for or secure other funding to complete the project, although there is
no assurance that it would do so. To date, the lenders have made funds
available, and the project owner has continued to disburse funds to KBR as
payment for its work on the project even though the project completion has been
delayed.

In addition, although the project financing includes borrowing capacity
in excess of the original contract amount, only $250 million of this additional
borrowing capacity is reserved for increases in the contract amount payable to
KBR and its subcontractors. Under the loan documents, the availability date for
loan draws expires December 1, 2003. As a condition to approving the heads of
agreement, the lenders will require the project owner to draw all remaining
available funds prior to December 1, 2003, and to escrow the funds for the
exclusive use of paying project costs. No funds may be paid to Petrobras or its
subsidiary (which is funding the drilling costs of the project) until all
amounts due to KBR, including amounts due for the claims, are liquidated and
paid. While this potentially increases the funds available for payment to KBR,
KBR is not party to the arrangement between the lenders and the project owner
and can give no assurance that there will be adequate funding to cover current
or future KBR claims and change orders.

SECURITIES AND EXCHANGE COMMISSION ("SEC") INVESTIGATION AND FORTUNE
500 REVIEW. In late May 2002, we received a letter from the Fort Worth District
Office of the Securities and Exchange Commission stating that it was initiating
a preliminary inquiry into some of our accounting practices. In mid-December
2002, we were notified by the SEC that a formal order of investigation had been
issued. Since that time, the SEC has issued subpoenas calling for the production
of documents and requiring the appearance of a number of witnesses to testify
regarding those accounting practices, which relate to the recording of revenues
associated with cost overruns and unapproved claims on long-term engineering and
construction projects. Throughout the informal inquiry and during the pendency
of the formal investigation, we have provided approximately 300,000 documents to
the SEC. We believe that the production of documents is now complete and that
all current and former Company employees have completed their testimony to the
Commission. To our knowledge, the SEC's investigation has focused on the
compliance with generally accepted accounting principles of our recording of
revenues associated with cost overruns and unapproved claims for long-term
engineering and construction projects, and the disclosure of our accrual
practices. Accrual of revenue from unapproved claims is an accepted and widely
followed accounting

26

practice for companies in the engineering and construction business. Although we
accrued revenue related to unapproved claims in 1998, we first made disclosures
regarding the accruals in our 1999 Annual Report on Form 10-K. We believe we
properly applied the required methodology of SOP 81-1, and satisfied the
relevant criteria for accruing this revenue, although the SEC may conclude
otherwise.

In December 2001, the SEC's Division of Corporation Finance announced
that it would review the annual reports of all Fortune 500 companies that file
periodic reports with the SEC. We received the SEC's initial comments in letter
form in September 2002 and responded in October 2002. Since then, we have
received and responded to several follow-up sets of comments.

SECURITIES AND RELATED LITIGATION. On June 3, 2002, a class action
lawsuit was filed against us in the United States District Court for the
Northern District of Texas on behalf of purchasers of our common stock alleging
violations of the federal securities laws. After that date, approximately twenty
similar class actions were filed against us in that or other federal district
courts. Several of those lawsuits also named as defendants Arthur Andersen, LLP
("Arthur Andersen"), our independent accountants for the period covered by the
lawsuits, and several of our present or former officers and directors. Those
lawsuits allege that we violated federal securities laws in failing to disclose
a change in the manner in which we accounted for revenues associated with
unapproved claims on long-term engineering and construction contracts, and that
we overstated revenue by accruing the unapproved claims. One such action was
subsequently dismissed voluntarily, without prejudice, upon motion by the filing
plaintiff. The federal securities fraud class actions have all been transferred
to the United States District Court for the Northern District of Texas and
consolidated before the Honorable Judge David Godbey. The amended consolidated
class action complaint in that case, styled Richard Moore v. Halliburton, was
filed and served upon us on or about April 11, 2003. In early May 2003, we
announced that we had entered into a written memorandum of understanding setting
forth the terms upon which the consolidated cases would be settled. The
memorandum of understanding calls for Halliburton to pay $6 million, which is to
be funded by insurance proceeds. After that announcement, one of the lead
plaintiffs announced that it was dissatisfied with the lead plaintiffs'
counsel's handling of settlement negotiations and what the dissident plaintiff
regarded as inadequate communications by the lead plaintiffs' counsel. The
dissident plaintiff subsequently filed a motion for an order to show cause why
the lead plaintiffs' counsel should not be held to have breached his fiduciary
duties to the class and be replaced as lead plaintiffs' counsel. That motion was
denied. It is unclear whether this dispute within the ranks of the lead
plaintiffs will have any impact upon the process of approval of the settlement
and whether the dissident plaintiff will object to the settlement at the time of
the fairness hearing or opt out of the class action for settlement purposes. The
process by which the parties will seek approval of the settlement is ongoing.

Another case, also filed in the United States District Court for the
Northern District of Texas on behalf of three individuals, and based upon the
same revenue recognition practices and accounting treatment that is the subject
of the securities class actions, alleges only common law and statutory fraud in
violation of Texas state law. We moved to dismiss that action on October 24,
2002, as required by the court's scheduling order, on the bases of lack of
federal subject matter jurisdiction and failure to plead with the degree of
particularity required by the rules of procedure. That motion has now been fully
briefed and oral argument on it was held on July 29, 2003. The court granted our
motion to dismiss without prejudice and the plaintiffs have filed a notice of
appeal.

In addition to the securities class actions, one additional class
action, alleging violations of the Employee Retirement Income Security Act of
1974 ("ERISA") in connection with the Company's Benefits Committee's purchase of
our stock for the accounts of participants in our 401(k) retirement plan during
the period we allegedly knew or should have known that our revenue was
overstated as a result of the accrual of revenue in connection with unapproved
claims, was filed and subsequently voluntarily dismissed.

In October 2002, a shareholder derivative action against present and
former directors and our former CFO was filed in the District Court of Harris
County, Texas alleging breach of fiduciary duty and corporate waste arising out
of the same events and circumstances upon which the securities class actions are
based. We moved to dismiss that action and, after hearings on that motion, the
court dismissed the action.

27

On March 12, 2003, another shareholder derivative action arising out of
the same events and circumstances was filed in the United States District Court
for the Northern District of Texas against certain of our present and former
officers and directors. Like the case filed in the state court in Harris County,
we believe that this action is without merit and we intend to vigorously defend
it. Settlement of this action is included in the memorandum of understanding in
the consolidated actions discussed above.

Finally, on August 29, 2003, another class action securities fraud
action was filed based upon the same change in our method of accounting for
unapproved claims on long-term engineering and construction contracts as well as
upon alleged wrongdoing in connection with the merger with Dresser Industries
which was concluded in September 1998. We believe that the allegations in that
action, Kimble v. Halliburton Company, et al., Civil Action No. 303 CV 1965 L,
United States District Court, Northern District of Texas, Dallas Division, are
without merit and we intend to vigorously defend against it.

As of the date of this filing, the $6 million settlement amount for the
consolidated actions and the federal court derivative action was fully covered
by the Company's directors' and officers' insurance carrier. As such, we have
accrued a contingent liability for the $6 million settlement and a $6 million
insurance receivable from the insurance carrier. We have not accrued a
contingent liability as of September 30, 2003 for any other shareholder
derivative action or class action lawsuit discussed above.

BJ SERVICES COMPANY PATENT LITIGATION. On April 12, 2002, a federal
court jury in Houston, Texas, returned a verdict against Halliburton Energy
Services, Inc. in a patent infringement lawsuit brought by BJ Services Company,
or BJ. The lawsuit alleged that our Phoenix fracturing fluid infringed a patent
issued to BJ in January 2000 for a method of well fracturing using a specific
fracturing fluid. The jury awarded BJ approximately $98 million in damages, plus
pre-judgment interest, and the court enjoined us from further use of our Phoenix
fracturing fluid. The United States Court of Appeals for the Federal Circuit in
Washington D.C. affirmed BJ Services' judgment against us in August 2003.
Thereafter, we filed a petition for rehearing before the full federal circuit
court. That petition was denied by order dated October 17, 2003. We presently
intend to request that the United States Supreme Court review and reverse the
judgment. In light of the trial court's decision in April 2002, a total of $102
million was accrued in the first quarter of 2002, which was comprised of the $98
million judgment and $4 million in pre-judgment interest costs. We do not expect
the loss of the use of the Phoenix fracturing fluid to have a material adverse
impact on our overall energy services business. We have alternative products to
use in our fracturing operations and have not been using the Phoenix fracturing
fluid since April 2002.

ANGLO-DUTCH (TENGE). On October 24, 2003, a jury in the 61st District
Court of Harris County, Texas returned a verdict finding Halliburton Energy
Services, Inc. liable to Anglo-Dutch (Tenge) L.L.C. and Anglo-Dutch Petroleum
International, Inc. for breaching a confidentiality agreement related to an
investment opportunity we considered in the late 1990s in an oil field in the
former Soviet Republic of Kazakhstan. Damages awarded against Halliburton Energy
Services amounted to $64 million. With the addition of the plaintiffs' legal
fees and expenses, the total amount of the potential judgment is approximately
$73.8 million. When and if the verdict is reduced to judgment, we will be
required to post security in the amount of $25 million in the form of cash or a
bond in order to postpone execution on the judgment until after all appeals have
been exhausted. We intend to vigorously prosecute our appeals. A charge in the
amount of $77 million, which includes provision for our own attorneys' fees and
expenses, has been recorded in the third quarter related to this matter in our
Landmark and Other Energy Services segment.

IMPROPER PAYMENTS REPORTED TO THE SECURITIES AND EXCHANGE COMMISSION.
During the second quarter 2002, we reported to the SEC and disclosed in our
first quarter 2002 Form 10-Q that one of our foreign subsidiaries operating in
Nigeria made improper payments of approximately $2.4 million to entities owned
by a Nigerian national who held himself out as a tax consultant when in fact he
was an employee of a local tax authority. The payments were made to obtain
favorable tax treatment and clearly violated our Code of Business Conduct and
our internal control procedures. The payments were discovered during an audit of
the foreign subsidiary. We have conducted an investigation assisted by outside
legal counsel. Based on the findings of the investigation we have terminated
several employees. None of our senior officers were involved. We are cooperating
with the SEC in its review of the matter. We are taking further action to ensure
that our foreign subsidiary pays all taxes owed in Nigeria, which may be as much
as $5 million, which has been fully accrued. A preliminary assessment was issued

28

by the Nigerian Tax Authorities in June of 2003 for approximately $3 million.
Payment of that assessment was made in the second quarter of 2003 and an
additional $1 million was paid in the third quarter 2003. We are cooperating
with the Nigerian Tax Authorities to determine the total amount due as quickly
as possible.

ENVIRONMENTAL. We are subject to numerous environmental, legal and
regulatory requirements related to our operations worldwide. In the United
States, these laws and regulations include the Comprehensive Environmental
Response, Compensation and Liability Act, the Resources Conservation and
Recovery Act, the Clean Air Act, the Federal Water Pollution Control Act and the
Toxic Substances Control Act, among others. In addition to the federal laws and
regulations, states where we do business may have equivalent laws and
regulations by which we must also abide. We evaluate and address the
environmental impact of our operations by assessing and remediating contaminated
properties in order to avoid future liabilities and comply with environmental,
legal and regulatory requirements. On occasion, we are involved in specific
environmental litigation and claims, including the remediation of properties we
own or have operated as well as efforts to meet or correct compliance-related
matters.

We do not expect costs related to these remediation requirements to
have a material adverse effect on our consolidated financial position or our
results of operations. Our accrued liabilities for environmental matters were
$34 million as of September 30, 2003 and $48 million as of December 31, 2002.
The liability covers numerous properties, and no individual property accounts
for more than $5 million of the liability balance. In some instances, we have
been named a potentially responsible party by a regulatory agency, but in each
of those cases, we do not believe we have any material liability. We have
subsidiaries that have been named as potentially responsible parties along with
other third parties for nine federal and state superfund sites for which we have
established liabilities. As of September 30, 2003, those nine sites accounted
for approximately $7 million of our total $34 million liability.

LETTERS OF CREDIT. In the normal course of business, we have agreements
with banks under which approximately $1.3 billion of letters of credit or bank
guarantees were issued as of September 30, 2003, including $267 million which
relate to our joint ventures' operations. Effective October 9, 2002, we amended
an agreement with banks under which $266 million of letters of credit had been
issued. The revised agreements include provisions that require us to maintain
ratios of debt to total capital and of total earnings before interest, taxes,
depreciation and amortization to interest expense. The definition of debt
includes our asbestos liability. The definition of total earnings before
interest, taxes, depreciation and amortization excludes any non-cash charges
related to the proposed asbestos settlement through December 31, 2003.

If our debt ratings fall below investment grade, we would be in
technical breach of a bank agreement covering another $42 million of letters of
credit at September 30, 2003, which might entitle the bank to set-off rights. In
addition, a $151 million letter of credit line, of which the entire amount has
been issued, includes provisions that allow the bank to require cash
collateralization for the full line if debt ratings fall below either the rating
of BBB by Standard & Poor's or Baa2 by Moody's Investors' Services. These
letters of credit and bank guarantees generally relate to our guaranteed
performance or retention payments under our long-term contracts and
self-insurance.

In the past, no significant claims have been made against letters of
credit we have issued. We do not anticipate material losses to occur as a result
of these financial instruments.

LIQUIDATED DAMAGES. Many of our engineering and construction contracts
have milestone due dates that must be met or we may be subject to penalties for
liquidated damages if claims are asserted and we were responsible for the
delays. These generally relate to specified activities within a project by a set
contractual date or achievement of a specified level of output or throughput of
a plant we construct. Each contract defines the conditions under which a
customer may make a claim for liquidated damages. In most instances, liquidated
damages are not asserted by the customer but the potential to do so is used in
negotiating claims and closing out the contract. We had not accrued a liability
for $450 million at September 30, 2003 and $364 million at December 31, 2002 of
possible liquidated damages as we consider the imposition of liquidated damages
to be unlikely. We believe we have valid claims for schedule extensions against
the customers which would eliminate our liability for liquidated damages. Of the
total liquidated damages, $266 million at September 30, 2003 and $263 million at
December 31, 2002 relate to unasserted liquidated damages for the
Barracuda-Caratinga project.

OTHER. We are a party to various other legal proceedings. We expense
the cost of legal fees related to these proceedings as incurred. We believe any
liabilities we may have arising from these proceedings will not be material to
our consolidated financial position or results of operations.

29

NOTE 13. ACCOUNTING FOR STOCK-BASED COMPENSATION

We have six stock-based employee compensation plans. We account for
those plans under the recognition and measurement principles of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees", and
related interpretations. No cost for stock options granted is reflected in net
income, as all options granted under our plans have an exercise price equal to
the market value of the underlying common stock on the date of grant. In
addition, no cost for the Employee Stock Purchase Plan is reflected in net
income because it is not considered a compensatory plan.

The fair value of options at the date of grant was estimated using the
Black-Scholes option pricing model. For the three and nine months ended
September 30, 2003 and September 30, 2002, the weighted average assumptions used
in valuing stock-based employee compensation and resulting fair values of
options granted are as follows:

The following table illustrates the effect on net income and income per
share if we had applied the fair value recognition provisions of FASB Statement
No. 123, "Accounting for Stock-Based Compensation", to stock-based employee
compensation.

NOTE 14. CHANGE IN ACCOUNTING PRINCIPLE

In August 2001, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standard ("SFAS") No. 143, "Accounting
for Asset Retirement Obligations" which addresses the financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated assets' retirement costs. SFAS No. 143 requires that
the fair value of a liability associated with an asset retirement be recognized
in the period in which it is incurred if a reasonable estimate of fair value can
be made. The

30

associated retirement costs are capitalized as part of the carrying amount of
the long-lived asset and subsequently depreciated over the life of the asset.
The new standard was effective for us beginning January 1, 2003, and the
adoption of this standard resulted in a charge of $8 million after tax as a
cumulative effect of a change in accounting principle. The asset retirement
obligations primarily relate to the removal of leasehold improvements upon
exiting certain lease arrangements and restoration of land associated with the
mining of bentonite. The total liability recorded at adoption and at September
30, 2003 for asset retirement obligations and the related accretion and
depreciation expense for all periods presented is immaterial to our consolidated
financial position and results of operations.

In November 2002, the FASB issued FASB Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" ("FIN 45"). This interpretation
requires that a liability be recorded in the guarantor's balance sheet upon
issuance of a guarantee. In addition, FIN 45 requires disclosures about the
guarantees that an entity has issued. The disclosure provisions of FIN 45 were
effective for financial statements of interim and annual periods ended after
December 15, 2002. We adopted the recognition provisions of FIN 45 as of January
1, 2003. The adoption of FIN 45 did not have a material effect on our
consolidated financial position or results of operations.

The FASB issued FASB Interpretation No. 46, "Consolidation of Variable
Interest Entities, an Interpretation of ARB No. 51" ("FIN 46"), in January 2003.
FIN 46, requires the consolidation of entities in which a company absorbs a
majority of another entity's expected losses, receives a majority of the other
entity's expected residual returns, or both, as a result of ownership,
contractual or other financial interests in the other entity. Currently,
entities are generally consolidated based upon a controlling financial interest
through ownership of a majority voting interest in the entity. In October 2003,
the FASB issued a FASB Staff Position which deferred the effective date of FIN
46 for variable interest entities that existed prior to February 1, 2003 (the
original implementation date for these variable interest entities was July 1,
2003). Additionally, due to significant issues in applying and interpreting FIN
46, the FASB has announced that it is making certain modifications and will
issue an exposure draft of those modifications in the fourth quarter of 2003. As
a result, we will continue to evaluate the FASB's ongoing discussions and
anticipated modifications of FIN 46 and plan to adopt FIN 46 effective December
31, 2003. In the second quarter of 2003, we initially identified the following
variable interest entities:

- during 2001, we formed a joint venture in which we own a 50%
equity interest with two other unrelated partners, each owning
a 25% equity interest. The joint venture was formed to
construct, operate and service certain assets for a third
party and was funded with third party debt. The construction
of the assets is expected to be completed in 2004, and the
operating and service contract related to the assets will
extend for 20 years beginning in 2003. The proceeds from the
debt financing are being used to construct the assets and will
be paid down with cash flows generated during the operation
and service phase of the contract with the third party. As of
September 30, 2003, the joint venture had total assets of $140
million and total liabilities of $142 million. Our aggregate
exposure to loss as a result of our involvement with this
joint venture is limited to our equity investment and
subordinated debt of $10 million and any future losses related
to the construction and operation of the assets. The joint
venture is currently accounted for under the equity method of
accounting in our engineering and construction business
segment. In the second quarter of 2003, we disclosed that we
were the primary beneficiary of the variable interest entity
and that we would consolidate the entity as of July 1, 2003.
However as a result of the delay in the effective date of FIN
46 and the future guidance and amendments related to this
interpretation that are expected to be issued by the FASB in
the near future, we will reevaluate our initial conclusions in
the fourth quarter of 2003 to consider the effect that any
such future guidance and amendments may have on our initial
conclusions;

- during the second quarter of 2001, we formed a joint venture
with an unrelated party in which we have a 50% equity interest
and account for this investment using the equity method in our
Landmark and Other Energy Services business segment. The joint
venture was established for the further development and
deployment of new technologies related to completions and well
intervention products and services. We believe that the joint
venture is a variable interest entity under FIN 46. However,
we do not believe we are the primary beneficiary of the entity
and will continue to apply the equity method of accounting.
Our maximum exposure to loss as a result of

31

our involvement in the joint venture is $100 million as of
September 30, 2003, which is the sum of our current investment
and our share of the balance outstanding under the joint
venture's revolving loan agreement with the equity partners.
We are also at risk for our share of any future losses the
joint venture may incur; and

- our Engineering and Construction Group is involved in three
joint ventures formed to design, build, operate and maintain
roadways for certain government agencies. We have a 25%
ownership interest in these joint ventures and account for
them under the equity method. These joint ventures are
considered variable interest entities as they were initially
formed with little equity contributed by the partners. The
joint ventures have obtained financing through third parties
which is not guaranteed by us. We do not believe we are the
primary beneficiary of these joint ventures and will,
therefore, continue to account for them using the equity
method. As of September 30, 2003, these joint ventures had
total assets of $1.2 billion and total liabilities of $1.2
billion. Our maximum exposure to loss is limited to our equity
investments in and loans to the joint ventures (totaling $37
million at September 30, 2003) and our share of any future
losses related to the construction, operation and maintenance
of these roadways.

In May 2003, the Emerging Issues Task Force finalized its Issue No.
00-21, "Revenue Arrangements with Multiple Deliverables" (EITF 00-21).
EITF 00-21 addresses certain aspects of the accounting by a vendor for
arrangements under which it will perform multiple revenue-generating activities.
Specifically, this Issue addresses how to determine whether an arrangement
involving multiple deliverables contains more than one unit of accounting. The
provisions of this Issue do not override higher-level authoritative literature
including, but not limited to SOP 81-1 and SOP 97-2, "Software Revenue
Recognition." This Issue is effective for us for revenue arrangements entered
into in reporting periods beginning after June 15, 2003. The impact of adopting
this Issue in the third quarter of 2003 was immaterial, and the impact in future
periods is expected to be immaterial with respect to our existing revenue
arrangements and contracts. However, this Issue could impact how we recognize
revenue on contracts that we enter into in the future.

NOTE 15. DEBT

CONVERTIBLE BONDS. In June 2003, we issued $1.2 billion of 3.125%
convertible senior notes due July 15, 2023. The notes were offered and sold in
accordance with the private placement rules (Rule 144A) under the Securities Act
of 1933. The notes are our senior unsecured obligations ranking equally with all
of our existing and future senior unsecured indebtedness. We will pay interest
on the notes on January 15 and July 15 of each year.

The notes are convertible into our common stock under any of the
following circumstances:

- during any calendar quarter (and only during such calendar
quarter) if the last reported sale price of our common stock
for at least 20 trading days during the period of 30
consecutive trading days ending on the last trading day of the
previous quarter is greater than or equal to 120% of the
conversion price per share of our common stock on such last
trading day;

- if the notes have been called for redemption;

- upon the occurrence of specified corporate transactions that
are described in the indenture relating to the offering; or

- during any period in which the credit ratings assigned to the
notes by both Moody's and Standard & Poor's are lower than Ba1
and BB+, respectively, or the notes are no longer rated by at
least one of these rating services or their successors.

The initial conversion price is $37.65 per share and is subject to
adjustment. Upon conversion, we will have the right to deliver, in lieu of
shares of our common stock, cash or a combination of cash and common stock.

The notes are redeemable for cash at our option on or after July 15,
2008. Holders may require us to repurchase the notes for cash on July 15 of
2008, 2013 or 2018 or, prior to July 15, 2008, in the event of a fundamental
change as defined in the indenture. In each case, we will pay a purchase price
equal to 100% of the principal amount plus accrued and unpaid interest and
additional amounts owed, if any.

On October 28, 2003, we filed a shelf registration statement with the
SEC with respect to the notes and the common stock issuable upon conversion of
the notes. If the registration statement fails to become effective before
January 26, 2004, we may be required to pay additional amounts on the notes and
the common stock issuable upon conversion of the notes.

32

EXCHANGE OFFER FOR DII INDUSTRIES DEBENTURES. The indenture governing
$300 million aggregate principal amount of DII Industries' 7.60% debentures due
2096 contains a default provision that may be triggered by the anticipated
Chapter 11 filing of DII Industries, Kellogg Brown & Root and some of their
subsidiaries with U.S. operations absent a consent or other action. In October
2003, DII Industries commenced a consent solicitation in which it is requesting
consents to amend the indenture governing its 7.60% debentures due 2096 to,
among other things, eliminate the bankruptcy-related events of default and, in
connection therewith, and Halliburton commenced an exchange offer in which it is
offering to issue its new 7.6% debentures due 2096 in exchange for a like amount
of outstanding 7.60% debentures due 2096 of DII Industries that are held by
holders qualified to participate in the exchange offer. As of the date hereof,
$300 million aggregate principal amount of DII Industries debentures are
outstanding. In October 2003, DII Industries announced that it had received
consents from holders of more than 95% of the principal amount of outstanding
7.60% debentures. These consents have been accepted and have become irrevocable.
DII Industries has amended the indenture governing its 7.6% debentures and the
amendments will take effect when the exchange offer is completed. Once the
amendments become effective, DII Industries will make the consent payment of
$2.50 per $1,000 principal amount to holders who tendered their consent prior to
the October 24, 2003 consent deadline. One of the remaining conditions to the
exchange offer and the effectiveness of the consent is that all prerequisites
shall have been satisfied for concluding the proposed settlement of asbestos and
silica claims of Halliburton's subsidiaries. Immediately prior to the closing of
the exchange offer, Halliburton will become a co-obligor of the DII Industries
debentures. Irrespective of the amount tendered in the exchange offer, $300
million of debentures bearing interest at a rate of 7.6% per annum will remain
on Halliburton's consolidated balance sheet.

FLOATING AND FIXED RATE SENIOR NOTES. Also in October 2003, we
completed an offering of $1.05 billion of floating and fixed rate unsecured
senior notes. The floating rate notes, with an aggregate principal amount of
$300 million, will mature on October 17, 2005 with an interest rate equal to
three-month LIBOR (London interbank offered rates) plus 1.5% paid quarterly. The
fixed rate notes, with an aggregate principal amount of $750 million, will
mature on October 15, 2010 with an interest rate equal to 5 1/2 % paid
semi-annually. The fixed rate notes were initially offered at a discount of
99.679%. A substantial portion of the net proceeds ($1.041 billion) are expected
to be used to fund a portion of the cash required to be contributed to the
trusts for the benefit of the asbestos and silica claimants. We have agreed to
file a shelf registration statement with the SEC with respect to the notes as
soon as practicable, but no later than 120 days following the date the notes
were issued. If we fail to fulfill this obligation within the specified time
period, we will pay additional amounts on the notes in an amount equal to 0.25%
per annum for the first 90 days of the default period and an additional 0.25%
thereafter, not to exceed 0.50% per annum.

NOTE 16. INCOME TAXES

Our effective tax rate for the third quarter 2003 was 39% as compared
to 42% for the third quarter 2002. The effective tax rate of 42% for the third
quarter 2002 was higher due to the impact of the loss on the sale of our
interest in Bredero-Shaw. The Bredero-Shaw sale did not create a significant tax
loss as the tax basis was substantially lower than the book basis. In addition,
the tax loss created is a capital loss which would only free up foreign tax
credits and future realization of those credits is uncertain. Therefore, no tax
benefit was recorded for the loss.

In the first nine months of 2003, provision for income taxes was $142
million, resulting in an effective tax rate of 40.3%, versus $31 million in the
first nine months of 2002. The first nine months of 2002 effective tax rate was
low due to the exposure charges associated with our asbestos liability, as well
as the tax impact of the Bredero-Shaw impairment and sale losses as described
above. The asbestos accrual generated a United States Federal deferred tax asset
which may not be fully realizable based upon future taxable income projections.
As a result we recorded a partial valuation allowance.

33

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

In this section, we discuss the business environment, operating results
and general financial condition of Halliburton Company and its subsidiaries. We
explain:

- factors and risks that impact our business;

- why our revenues and operating income for the third quarter
2003 and nine months ended September 30, 2003 vary from the
third quarter 2002 and nine months ended September 30, 2002;

- capital expenditures;

- factors that impacted our cash flows; and

- other items that materially affect our financial condition or
earnings.

BUSINESS ENVIRONMENT

During the second quarter of 2003, we restructured our Energy Services
Group into four divisions, which is the basis for the four segments we now
report within the Energy Services Group. We grouped product lines in order to
better align ourselves with how our customers procure our services, and to
capture new business and achieve better integration, including joint research
and development of new products and technologies and other synergies. The new
segments mirror the way our chief executive officer (our chief operating
decision maker) now regularly reviews the operating results, assesses
performance and allocates resources. Our Engineering and Construction Group
(known as KBR) segment remains unchanged.

All prior period segment results have been restated to reflect these
changes.

Our five business segments are organized around how we manage the
business. These segments are:

- Drilling and Formation Evaluation;

- Fluids;

- Production Optimization;

- Landmark and Other Energy Services; and

- Engineering and Construction Group.

We currently operate in over 100 countries throughout the world,
providing a comprehensive range of discrete and integrated products and services
to the energy industry and to other industrial and governmental customers. The
majority of our consolidated revenues are derived from the sale of services and
products, including engineering and construction activities, to major, national
and independent oil and gas companies. These services and products are used
throughout the energy industry from the earliest phases of exploration,
development and production of oil and gas resources through refining, processing
and marketing.

The industries we serve are highly competitive with many substantial
competitors for each segment. Geographically, the United States represented 30%
and the United Kingdom represented 10% of our total revenues in the first nine
months of 2003. No other country accounted for more than 10% of our operations.
Unsettled political conditions, social unrest, acts of terrorism, force majeure,
war or other armed conflict, expropriation or other governmental actions,
inflation, exchange controls or currency devaluation may result in increased
business risk in any one country. We believe the geographic diversification of
our business activities reduces the risk that loss of business in any one
country would be material to our consolidated results of operations.

Activity levels within our five business segments are significantly
impacted by the following:

- spending on upstream exploration, development and production
programs by major, national and independent oil and gas
companies;

- capital expenditures for downstream refining, processing,
petrochemical, and marketing facilities by major, national and
independent oil and gas companies; and

- government outsourcing and spending levels.

The state of the global economy also impacts our activity, which
indirectly impacts oil and gas consumption, demand for petrochemical products
and investment in infrastructure projects.

34

ENERGY SERVICES GROUP

Some of the more significant measures of current and future spending
levels of oil and gas companies which drive worldwide exploration and production
activity and investment are the following:

- oil and gas prices;

- the quality of exploration and production drilling prospects;
and

- world economic conditions and the degree of global political
stability.

In early 2002, a surplus in working gas in storage contributed to low
prices and reduced drilling activities in the United States. Working gas in
storage is the volume of gas in underground reservoirs above the level of base
gas (cushion gas) intended as permanent inventory in a storage reservoir to
maintain adequate pressure and deliverability rates throughout the winter
withdrawal season. The reduced drilling, combined with an abnormally cold
2002/2003 winter season, drove the working gas in storage at January 31, 2003 to
1,521 billion cubic feet, commonly referred to as bcf, which was 287 bcf below
the five year average.

This low level of working natural gas in storage in the United States
has increased the demand for natural gas resulting in Henry Hub prices averaging
above $5.00 per million cubic feet, commonly referred to as mcf, for the first
nine months of 2003. For the third quarter 2003, natural gas prices at Henry Hub
averaged $4.89 per mcf compared to $3.19 per mcf in the third quarter 2002. The
level of natural gas storage continues to be a key driver of North American
activity. As of October 10, 2003 there was 2,944 bcf in working gas in storage
in the United States according to an Energy Information Administration estimate,
which was 184 bcf lower than a year ago but very near the five year average of
2,952 bcf, which is a result of a low industrial demand for natural gas due to
high price coupled with strong gas drilling.

Crude oil prices for West Texas Intermediate averaged $30.15 per barrel
for the third quarter of 2003 compared to $28.23 per barrel for the third
quarter 2002. Crude oil inventories in the United States have consistently
remained below the lower end of the normal range despite a recent increase in
imports, now averaging nearly 10 million barrels per day, which in turn has
supported crude oil prices in the United States. Until commercial crude oil
inventory deficits are eliminated and Iraqi oil production returns to normal,
United States oil markets are expected to remain tight, which should help
support prices at or near current levels.

The yearly average and quarterly average rig counts based on the Baker
Hughes Incorporated rig count information are as follows:

Worldwide rig activity has increased since the third quarter of 2002
from an average of 1,821 rigs in the third quarter 2002 to an average of 2,253
rigs in the third quarter 2003. The increase in rig activity has been most
pronounced in the United States, with a 28% increase, and Canada, with a 53%
increase. United States rig counts went from 853 in the third quarter 2002 to
1,088 rigs in the third quarter 2003. The majority of this increase is related
to onshore rigs drilling for natural gas as gas prices remained high and demand
was high in order to replenish working gas in storage for the upcoming 2003/2004
heating season. The Canadian rig count decreased from 493 rigs in the first
quarter 2003 to 383 rigs in the third quarter 2003. Canadian rig counts
decreased as a result of the

35

normal spring break up and thaw season, but were 53% higher in the third quarter
of 2003 as compared to the third quarter 2002. The international rig count
increased 9% from 718 rigs in the third quarter 2002 to 782 rigs in the third
quarter 2003. The majority of this increase was in Mexico, Venezuela and
Argentina slightly offset by lower activity in Africa, primarily in Angola and
Nigeria. We believe the increased drilling activity and rig counts since the
second quarter of 2002 are due to the following factors:

- higher oil and gas prices;

- low oil inventories in the Organization for Economic
Co-operation and Development consuming countries;

- low natural gas inventories in the United States for the
upcoming winter season;

- cessation of armed conflict in Iraq;

- perception that the global economy is improving; and

- increased spending by our customers.

It is common practice in the United States oilfield services industry
to sell services and products based on a price book and then apply discounts to
the price book based upon a variety of factors. Discounts are typically applied
to partially or substantially offset price book increases immediately following
a price increase. Discounts normally decrease over time if the activity levels
remain strong. During periods of reduced activity, discounts normally increase,
reducing the net revenue for our products and services. Conversely, during
periods of higher activity, discounts normally decline resulting in net revenue
increasing for our products and services.

Decreased rig activity in the United States in 2002 as compared to 2001
caused the Energy Services Group to discount prices. Although rig activity in
the United States has increased over the last twelve months, discounts have
still not decreased, particularly in some of the western states. Price increases
that we had implemented in 2000 and 2001 have mostly been eroded by additional
discounts.

A price book increase in cementing, production enhancement, tools and
testing, and logging and perforating was implemented in the United States
effective August 15, 2003, which increased prices on average 5%. This did not
have much of an impact on pricing in the third quarter of 2003 as the price
increases were implemented late in the quarter and were partially offset by
increased discounts.

ENGINEERING AND CONSTRUCTION GROUP

Our engineering and construction projects are longer term in nature
than our energy services projects and are not as significantly impacted by
short-term fluctuations in oil and gas prices. We believe that the global
economic recovery is continuing, but its strength and sustainability are not
assured. Based on the uncertain economic recovery, continuing excess capacity in
petrochemical supplies and rising unemployment, customers have continued to
delay project awards or reduce the scope of projects involving hydrocarbons and
manufacturing until growth in consumer spending is evident. A number of
large-scale gas and liquefied natural gas (LNG) development, offshore deepwater,
government, and infrastructure projects are being awarded or actively
considered. However, due to the inconsistent economic growth in certain areas of
the world and the overall limited growth of the global economy, many customers
continue to delay some of their capital commitments and international
investments.

We see an emerging drive to monetize gas reserves in the Middle East,
West Africa and parts of the Pacific Basin, combined with strong demand for gas
and LNG in the United States, Japan, Korea, Taiwan, China, and India. The
developments have led to numerous gas-to-liquids (GTL), LNG liquefaction and gas
development projects in the three exporting regions, as well as onshore or
floating regasification terminals and gas processing plants in the importing
countries. With LNG set to play a larger role as a new supply source, the shift
from fuel served by exclusively domestic resources to a market increasingly
served with international resources heralds a change in the United States gas
business. This will lead to an increasing internationalization of the natural
gas industry, bringing with it the integration of North America into a growing
world market.

We expect growth opportunities to exist for additional security and
defense support to government agencies in the United States and other countries.
Demand for these services is expected to grow as a result of the reconstruction
efforts in Iraq and as governmental agencies seek to control costs and promote
efficiencies by outsourcing these functions. We also expect growth due to new
demands created by increased efforts to combat terrorism and enhance homeland
security.

36

Engineering and construction contracts can be broadly categorized as
fixed-price, sometimes referred to as lump sum, or cost reimbursable contracts.
Some contracts can involve both fixed-price and cost reimbursable elements.

Fixed-price contracts are for a fixed sum to cover all costs and any
profit element for a defined scope of work. Fixed-price contracts entail more
risk to us as we must pre-determine both the quantities of work to be performed
and the costs associated with executing the work. The risks to us arise, among
other things, from:

- uncertainties in estimating the technical aspects and effort
involved to accomplish the work within the contract schedule;

- labor availability and productivity; and

- supplier and subcontractor pricing and performance.

Fixed-price engineering, procurement and construction and fixed-price
engineering, procurement, installation, and commissioning contracts involve even
greater risks including:

- bidding a fixed-price and completion date before detailed
engineering work has been performed;

- bidding a fixed-price and completion date before locking in
price and delivery of significant procurement components
(often items which are specifically designed and fabricated
for the project);

- bidding a fixed-price and completion date before finalizing
subcontractors' terms and conditions;

- subcontractors' individual performance and combined
interdependencies of multiple subcontractors (the majority of
all construction and installation work is performed by
subcontractors);

- contracts covering long periods of time;

- contract values generally for large amounts; and

- contracts containing significant liquidated damages
provisions.

Cost reimbursable contracts include contracts where the price is
variable based upon actual costs incurred for time and materials, or for
variable quantities of work priced at defined unit rates. Profit elements on
cost reimbursable contracts may be based upon a percentage of costs incurred
and/or a fixed amount. Cost reimbursable contracts are generally less risky,
since the owner retains many of the risks. While fixed-price contracts involve
greater risk, they also are potentially more profitable for the contractor,
since the owners pay a premium to transfer many risks to the contractor.

After careful consideration, we have decided to no longer pursue
fixed-price engineering, procurement, installation, and commissioning contracts
for the offshore oil and gas industry. An important aspect of our 2002
reorganization was to look closely at each of our businesses to ensure that they
are self-sufficient, including their use of capital and liquidity. In that
process, we found that the engineering, procurement, installation, and
commissioning offshore business was using a disproportionate share of our
bonding and letter of credit capacity relative to its profit contribution. The
risk/reward relationship in that business is no longer attractive to us. We
provide a range of engineering, fabrication and project management services to
the offshore industry, which we will continue to service through a variety of
other contracting forms. We have seven fixed-price engineering, procurement,
installation, and commissioning offshore projects underway, and we are fully
committed to successful completion of these projects, all but two of which are
substantially complete. The Belanak project is approximately 84% complete while
the Barracuda-Caratinga project is approximately 78% complete. We plan to retain
our offshore engineering and services capabilities.

The approximate percentages of revenues attributable to fixed-price and
cost reimbursable engineering and construction segment contracts are as follows:

37

BACKLOG

Our backlog at September 30, 2003 was $10 billion, comprised of $9.8
billion for the Engineering and Construction Group and $258 million for the
Energy Services Group. Our total backlog at December 31, 2002 was $10 billion.

ASBESTOS AND SILICA

In December 2002, we announced that we had reached an agreement in
principle that, if and when consummated, would result in a settlement of
asbestos and silica personal injury claims against our subsidiaries DII
Industries and Kellogg Brown & Root and their current and former subsidiaries
with United States operations. Subsequently, during 2003, DII Industries and
Kellogg Brown & Root have entered into definitive written agreements finalizing
the terms of the agreements in principle with attorneys representing more than
90% of the current asbestos and silica claimants. We revised our best estimate
of our asbestos and silica liability based on information obtained while
negotiating the agreement in principle, and adjusted our asbestos and silica
liability to $3.4 billion as of December 31, 2002, recorded additional probable
insurance recoveries resulting in total probable insurance recoveries of $2.1
billion as of December 31, 2002 and recorded a net pretax charge of $799 million
($675 million after tax) in the fourth quarter of 2002.

When and if the currently proposed settlement becomes probable under
Statement of Financial Accounting Standards No. 5, we will increase our accrual
for probable and reasonably estimable liabilities for current and future
asbestos claims up to approximately $4.4 billion, reflecting the amount in cash
and notes we will pay to fund the settlement combined with the value of 59.5
million shares of Halliburton common stock, a value of $1.4 billion, using the
stock price at September 30, 2003 of $24.25. As a result, we would expect to
record an additional pretax charge of approximately $1 billion. The tax benefit
from this charge will be relatively small, as we will set up a valuation
allowance for much of the loss carryforward. In addition, we may enter into
agreements with all or some of our insurance carriers to negotiate an overall
accelerated payment of anticipated insurance proceeds. If this happens, we
expect to adjust our insurance receivables based upon those agreements.

RESULTS OF OPERATIONS IN 2003 COMPARED TO 2002

THIRD QUARTER OF 2003 COMPARED WITH THE THIRD QUARTER OF 2002

38

Consolidated revenues in the third quarter of 2003 of $4.1 billion
increased $1.2 billion compared to the third quarter of 2002. International
revenues were 74% of total revenues for the third quarter of 2003 and 66% of
total revenues for the third quarter of 2002. This increase was largely
attributable to additional activity in KBR's government services projects,
including work in the Middle East. Consolidated operating income of $204 million
was $13 million higher in the third quarter of 2003 compared to the third
quarter of 2002. During the third quarter of 2003, Iraq related work contributed
approximately $900 million in consolidated revenues and $34 million in
consolidated operating income, a 3.8% margin before corporate costs and taxes.

DRILLING AND FORMATION EVALUATION segment revenues for the third
quarter of 2003 increased $25 million, or 6%, compared to the third quarter of
2002. Logging and perforating activities accounted for $20 million of the
increase and sales of drill bits accounted for $8 million of the increase over
the third quarter of 2002. Drilling services revenue decreased $3 million. The
increases in the Drilling and Formation Evaluation segment were driven by
increased rig counts in all geographic regions except for Europe/Africa, with
United States rig counts increasing 28% and Canadian rig counts increasing 53%.
The increase in United States rig counts occurred primarily with land based
rigs, as activity in the Gulf of Mexico was significantly reduced by our
customers. The lower results in Europe/Africa were primarily due to a reduction
in logging and perforating activity in West Africa and non-recurring drill bit
sales into Eastern Europe in the third quarter of 2002. Of the $20 million
increase in logging and perforating revenue, $11 million resulted primarily from
additional direct sales in Vietnam and improved performance on contracts in
Indonesia. In addition to the increased rig counts in North America referred to
above, drilling services benefited from additional direct sales in Russia and
China. However, overall drilling services revenues dropped $3 million, as the
sale of Mono Pumps in January 2003 negatively impacted year-over-year revenue
comparison by $19 million. International revenues were 71% of segment revenues
in the third quarter of 2003 compared to 73% in the third quarter of 2002.

Operating income for the third quarter of 2003 increased $10 million,
or 29%, compared to the third quarter of 2002. Drilling services operating
income was negatively impacted by $2 million due to the sale of Mono Pumps.
Logging and perforating services operating income increased $15 million over the
third quarter of 2002 with increases in all geographic regions. This was
primarily due to increased rig counts, except in Europe/Africa where cost
reductions as a result of redeployment of equipment and personnel attributed to
the increase in operating income. The overall positive improvement in operating
income for the segment was achieved despite project start-up expenses in
directional drilling and logging-while-drilling services and facility
consolidation expenses in drill bits.

FLUIDS segment revenues for the third quarter of 2003 increased $61
million, or 14%, compared to the third quarter of 2002. Cementing revenues
increased $38 million, primarily in North America due to increased rig counts.
In addition, cementing benefited from a 75% increase in Mexico revenues due to
four additional drilling platforms with PEMEX. Revenues from the sale of
drilling fluids increased $21 million and benefited from higher rig counts in
Latin America and Middle East/Asia and price improvements on certain contracts
in Europe/Africa. These increases were partially offset by a 17% decrease in
revenues in North America as a result of higher non-productive days due to
weather conditions and a loss of contracts in the Gulf of Mexico in 2003.
International revenues were 56% of segment revenues in the third quarter of 2003
compared to 49% in the third quarter of 2002. Revenues increased $20 million in
every geographic region, except North America where revenues remained flat.

Operating income for the third quarter of 2003 of $55 million
essentially remained flat compared to the third quarter of 2002. Cementing
operating margins increased nearly 2.5 percentage points to 17.8%, while
operating income was negatively affected by the loss of drilling fluids
contracts in the Gulf of Mexico, onshore United States pricing pressures and a
$3 million inventory adjustment in Nigeria. In addition, the segment was
negatively impacted by lower results from Enventure, our expandable casing joint
venture.

PRODUCTION OPTIMIZATION segment revenues increased $75 million, or 11%,
compared to the third quarter of 2002. The sale of Halliburton Measurement
Systems during the second quarter of 2003 had a $9 million negative impact on
segment revenue in the third quarter of 2003 compared to the third quarter of
2002. Production enhancement activities accounted for $60 million and sales of
tools and testing services accounted for $17 million of the overall increase
which was due to increased rig counts in North America and Latin America and
higher volumes in Mexico with PEMEX. Completion products and services revenues
increased $10 million in Middle East/Asia,

39

primarily due to direct sales of equipment to customers in China and Qatar,
offset by decreased revenue in North America as a result of the sale of
Halliburton Measurement Systems. International revenues were 56% of segment
revenues in the third quarter of 2003 compared to 53% in the third quarter of
2002 as activity picked up in Mexico where the rig count has increased over 50%
from the third quarter of 2002.

Operating income for the third quarter of 2003 increased $19 million,
or 18%, compared to the third quarter of 2002. This increase was primarily
driven by a $16 million increase in production enhancement services along with
higher revenues from the sale of tools and testing services to PEMEX, increased
utilization of well testing equipment in Brazil and improved margins in
Europe/Africa. In North America, incremental margins on increased revenue in
Canada were offset by pricing weakness and lower margin work in the United
States.

LANDMARK AND OTHER ENERGY SERVICES segment revenues for the third
quarter of 2003 decreased $33 million compared to third quarter of 2002. The
reduction in revenue was driven by the sale of Wellstream during the first
quarter of 2003, which impacted the year-over-year comparison by $20 million,
and the winding down of a North Sea project. Revenues for Landmark Graphics were
down $4 million compared to the third quarter of 2002 due to reduced data and
application management sales. International revenues for the segment were 70% of
total revenues in the third quarter of 2003 compared to 66% in the third quarter
of 2002.

Operating income for the third quarter of 2003 decreased $60 million,
to a loss of $52 million compared to income of $8 million in the third quarter
of 2002. Operating income in the third quarter of 2003 included a $77 million
charge related to the Anglo-Dutch lawsuit. Third quarter of 2002 included an $18
million loss on the sale of our 50% equity investment in the Bredero-Shaw joint
venture. Although operating income for the segment decreased, our Landmark
Graphics subsidiary posted its highest third quarter operating income and
margins in its history.

ENGINEERING AND CONSTRUCTION GROUP revenues for the third quarter of
2003 increased $1 billion, or 80%, compared to the third quarter 2002. The
improvement was substantially due to increased activity in Iraq related work for
the United States and United Kingdom governments and a $138 million increase in
revenues from other government projects. Additionally, KBR's revenue increased
by $161 million due to progress on LNG and oil and gas projects in Nigeria and
Algeria and hydrocarbon plants in North America and Europe. The increase in
revenue is partially offset by lower revenues of $261 million on oil and gas
projects in western Africa, Brazil and Asia Pacific, a United States government
contract in the Balkans, and maintenance contracts in the United States and
United Kingdom.

Operating income in the third quarter of 2003 increased $37 million
compared to the third quarter of 2002. Operating income from government
contracts increased from the third quarter of 2002, mainly related to government
services activity in the Middle East for Iraq related work and a $9 million
increase in income from other government projects. Additionally, income
increased $26 million for LNG, oil and gas, and hydrocarbon projects due to
improved project forecast and progress. Partially offsetting the income were
losses totaling $27 million on hydrocarbon projects in Europe and the Middle
East, offshore projects in Asia Pacific and lower income on oil and gas projects
in Western Africa nearing completion.

GENERAL CORPORATE expenses for the third quarter of 2003 were $15
million compared to $21 million for the third quarter of 2002, or a decrease in
costs of $6 million. The improved results reflect the $4 million in
restructuring charges incurred in the third quarter of 2002.

NONOPERATING ITEMS

INTEREST EXPENSE of $33 million for the third quarter of 2003 increased
$4 million compared to the third quarter of 2002. The increase was due to
interest on the $1.2 billion in convertible notes issued at the end of the
second quarter of 2003, net of interest on $150 million in medium term notes
retired during the third quarter of 2003.

FOREIGN CURRENCY GAINS (LOSSES), NET were $17 million in the current
year quarter compared to a gain of $1 million in the third quarter of 2002. The
loss in the current year quarter was primarily related to the foreign exchange
losses in the United Kingdom and Mexico.

40

PROVISION FOR INCOME TAXES of $63 million resulted in an effective tax
rate of 39% in the third quarter of 2003, compared to 42% in the third quarter
of 2002. The effective tax rate for the third quarter of 2002 was higher due to
the impact of the loss on the sale of our interest in Bredero-Shaw. The
Bredero-Shaw sale did not create a significant tax loss as the tax basis was
substantially lower than the book basis. In addition, the tax loss created is a
capital loss which would only free up foreign tax credits and future realization
of those credits is uncertain. Therefore, no tax benefit was recorded for the
loss.

LOSS FROM DISCONTINUED OPERATIONS, NET OF TAX was $34 million, or $0.08
per diluted share, for the third quarter of 2003. This loss reflects a $10
million allowance for an estimated portion of uncollectible amounts related to
the insurance receivables purchased from Harbison-Walker in connection with
their Chapter 11 bankruptcy proceeding. In addition, the loss includes
professional fees associated with the due diligence, printing and distribution
cost of the disclosure statement and other aspects of the proposed settlement
for asbestos and silica liabilities.

RESULTS OF OPERATIONS IN 2003 COMPARED TO 2002

FIRST NINE MONTHS OF 2003 COMPARED WITH THE FIRST NINE MONTHS OF 2002

Consolidated revenues in the first nine months of 2003 increased $1.6
billion, or 17%, compared to the first nine months of 2002. This increase was
largely attributable to additional activity in KBR's government services
projects, including work in the Middle East. International revenues were 70% of
total revenues for the first nine months of 2003 and 67% of total revenues for
the first nine months of 2002. Consolidated operating income increased $508
million in the first nine months of 2003 compared to the first nine months of
2002. During the first nine months of 2003, Iraq related work contributed
approximately $1.3 billion in consolidated revenues and $46 million in
consolidated operating income, a 3.5% margin before corporate costs and taxes.

DRILLING AND FORMATION EVALUATION segment revenues for the first nine
months of 2003 increased $6 million compared to the first nine months of 2002.
Drilling services revenue for the first nine months of 2003 was negatively
impacted by $59 million due to the sale of Mono Pumps in January 2003. The
remainder of drilling services revenue increased as contracts that were expiring
in the United Kingdom were more than offset by new contracts, primarily in West
Africa and Ecuador. Revenues from logging and perforating activities and sales
of drill bits each increased $11 million. The increase in logging and
perforating was primarily due to higher average year-

41

over-year rig counts in the United States and Canada, partially offset by lower
sales in China and reduced activity in Venezuela. Drill bits revenues also
benefited from the increased rig counts in the United States and Canada.
International revenues were 72% of segment revenues in the first nine months of
2003 and 73% of total revenues in the first nine months of 2002.

Operating income for the segment increased $45 million, or 39%, for the
first nine months of 2003 compared to the same period in 2002. Drilling services
operating income for the first nine months of 2003 was negatively impacted by $7
million due to the sale of Mono Pumps. Operating income for 2003 also included a
$36 million gain on the sale of Mono Pumps. Logging and perforating activities
drove the remaining improvement in operating income, increasing $21 million,
which was a result of increased rig counts internationally and lower discounts
in the United States. The increase in logging and perforating was partially
offset by a decrease of $5 million in drill bits sales due to lower activity in
the Middle East, pricing pressures in the United States and facility
consolidation expenses.

FLUIDS segment revenues increased by $156 million in the first nine
months of 2003, an increase of 12% from the first nine months of 2002. Both
drilling fluids and cementing activities benefited from higher land rig counts
in the United States, with a $75 million increase from drilling fluids sales and
a $78 million increase from cementing activities. Drilling fluids revenue
benefited from higher rig counts in Latin America and Middle East/Asia and price
improvements on certain contracts in Europe/Africa, while cementing revenues
benefited from increased activity in Mexico due to four additional drilling
platforms with PEMEX and increased rig counts in North America. International
revenues were 55% of total revenues in the first nine months of 2003 compared to
51% in the first nine months of 2002. Geographically, the largest increase in
revenues was in Middle East/Asia due to increased activity in the former Soviet
Union, Caspian and Indonesia. In addition, Latin America revenues were slightly
higher due to increased work in Mexico which was offset by lower activity in
Venezuela.

Fluids segment operating income for the first nine months of 2003
increased $24 million, or 16%, from the first nine months of 2002. Operating
income from drilling fluids sales increased $13 million and cementing services
increased $16 million, partially offset by lower results of $5 million from
Enventure over the same period in 2002. Cementing operating income primarily
increased in Middle East/Asia due to cost reductions in Indonesia, collections
on previously reserved receivables, certain start-up costs in 2002, and higher
margin work. Drilling fluids benefited from higher sales of environmentally
friendly fluids and improved contract terms, partially offset by contract losses
in the Gulf of Mexico and United States pricing pressures in the third quarter
of 2003. All regions showed improved segment operating income in the first nine
months of 2003 compared to the first nine months of 2002 except North America.

PRODUCTION OPTIMIZATION segment revenues increased $151 million, or 8%,
for the first nine months of 2003 from the first nine months of 2002. The sale
of Halliburton Measurement Systems had a $15 million negative impact on segment
revenues during the first nine months of 2003 compared to the same period in
2002. The increase in segment revenues was mainly attributable to production
enhancement services, which increased $121 million, or 11%, over last year.
Increased production enhancement services were driven by higher activity in the
Middle East following the end of the war in Iraq and increased rig count in
Mexico. In addition, sales of tools and testing services increased $28 million
due primarily to increased rig counts in North America. International revenues
were 55% of segment revenues in the first nine months of 2003 compared to 52% in
the first nine months of 2002 as activity picked up in the Middle East following
the end of the war in Iraq.

Production Optimization segment operating income for the first nine
months of 2003 increased $13 million from the first nine months of 2002.
Operating income included a $24 million gain on the sale of Halliburton
Measurement Systems in the second quarter of 2003, offset by completion service
contract delays in Indonesia and inventory write-downs. Inventory write-downs in
production enhancement and tools and testing also negatively impacted operating
margin.

LANDMARK AND OTHER ENERGY SERVICES segment revenues decreased $239
million, or 37%, for the first nine months of 2003, from the first nine months
of 2002. Segment revenues decreased approximately $200 million due to the
contribution of most of the assets of Halliburton Subsea to Subsea 7, Inc.
which, beginning in May 2002, was reported on an equity basis in the Production
Optimization segment. The sale of Wellstream in March 2003 and the sale of
integrated solutions projects in August 2002 also contributed to the decrease by
$163 million. Revenues for

42

Landmark Graphics were down $5 million due to weakness in information technology
spending in the industry, partially offset by increased revenue from
professional services. International revenues were 70% of segment revenues in
the 2003 first nine months compared to 74% in the first nine months of 2002.

Segment operating loss was $58 million for the first nine months of
2003 compared to a loss of $122 million for the first nine months of 2002.
Included in the first nine months of 2003 was a $15 million loss on the sale of
Wellstream and a $77 million charge related to the October 2003 verdict in the
Anglo-Dutch lawsuit. The significant items for operating income in the first
nine months of 2002 included:

- $108 million gain on the sale of European Marine Contractors
Ltd;

- $98 million charge for BJ Services patent infringement lawsuit
accrual;

- $79 million loss on the impairment of our 50% equity
investment in the Bredero-Shaw joint venture; and

- $47 million in expense related to restructuring charges.

Landmark Graphics operating income increased 50% and achieved its
highest operating margins for the first nine months in its history.

ENGINEERING AND CONSTRUCTION GROUP revenues for the nine months ended
September 30, 2003 of $5.6 billion were 37% higher than in the nine months ended
September 30, 2002. The improvement was due to increased activity in Iraq
related work for the United States and United Kingdom governments and a $167
million increase in revenues from other government projects. In addition,
revenues increased $570 million due to activities on LNG and oil and gas
projects in Nigeria, Algeria, and China, progress on hydrocarbon plants in North
America, the Middle East, and Europe, and activities on offshore projects in
Asia Pacific, the Gulf of Mexico, and the Caspian Sea. Partially offsetting the
revenue increases are lower revenues of $527 million on LNG projects in Asia
Pacific, oil and gas projects in western Africa for work nearing completion, a
rail project in Australia, progress on the Barracuda-Caratinga project in
Brazil, and maintenance contracts in the United States and United Kingdom.

Engineering and Construction Group operating loss in the first nine
months of 2003 was $118 million compared to an operating loss of $496 million in
the first nine months of 2002. Asbestos charges of $330 million, an $80 million
write-off of billed and accrued receivables related to the Highlands Insurance
Company litigation and $16 million of restructuring charges impacted the first
nine months of 2002 compared to $3 million in asbestos charges in the first nine
months of 2003. Operating income from government related activities improved for
the first nine months of 2003, mainly related to operations in the Middle East
for Iraq related work and a $21 million increase in income from other government
projects. In addition, income from LNG and gas projects in Nigeria and Algeria
increased $31 million over the first nine months of 2002 due to improved
progress and cost estimates. The Barracuda-Caratinga project recognized a $228
million loss in the first nine months of 2003 compared to a loss of $119 million
in the first nine months of 2002.

GENERAL CORPORATE expenses for the first nine months of 2003 were $50
million compared to $34 million for the first nine months of 2002. General
corporate expenses in the first nine months of 2002 included a $28 million
pretax gain for the value of stock received from the demutualization of an
insurance provider offset by 2002 restructuring charges of $15 million. The
higher 2003 expenses also relate to preparations for the certifications required
under Section 404 of the Sarbanes-Oxley Act.

NONOPERATING ITEMS

INTEREST EXPENSE of $85 million for the first nine months of 2003
decreased $6 million compared to the first nine months of 2002. The decrease was
due to $4 million in pre-judgment interest recorded in the 2002 second quarter
related to the BJ Services patent infringement judgment, approximately $290
million of debt repayments in the first nine months of 2003, partially offset by
the interest on the $1.2 billion convertible notes issued at the end of the
second quarter 2003.

FOREIGN CURRENCY LOSSES, NET were $4 million in the current year
compared to $12 million in the first nine months of last year. In the first
nine months of 2002 the decrease in losses was due to large foreign exchange
losses stemming from the economic crisis in Argentina.

43

PROVISION FOR INCOME TAXES of $142 million resulted in an effective tax
rate of 40.3% in the first nine months of 2003, versus $31 million in the first
nine months of 2002. The first nine months of 2002 effective tax rate was low
due to the exposure charges associated with our asbestos liability and tax
impact of the impairment and sale losses on Bredero-Shaw. The asbestos accrual
generated a United States Federal deferred tax asset which may not be fully
realizable based upon future taxable income projections. As a result we recorded
a partial valuation allowance. The Bredero-Shaw sale did not create a
significant tax loss as the tax basis was substantially lower than the book
basis. In addition, the tax loss created is a capital loss which would only free
up foreign tax credits and future realization of those credits is uncertain.
Therefore, no tax benefit was recorded for the loss.

LOSS FROM DISCONTINUED OPERATIONS, NET OF TAX was $58 million, or $0.13
per diluted share, for the first nine months of 2003 compared to $168 million,
or $0.39 per diluted share, for 2002. The loss in the first nine months of 2003
was due to charges related to our July 2003 funding of $30 million for the
debtor-in-possession financing to Harbison-Walker in connection with their
Chapter 11 bankruptcy proceeding that is expected to be forgiven by Halliburton
on the earlier of the effective date of a plan of reorganization for DII
Industries or the effective date of a plan of reorganization for Harbison-Walker
acceptable to DII Industries and a $10 million allowance for an estimated
portion of uncollectible amounts related to the insurance receivables purchased
from Harbison-Walker. In addition, discontinued operations included professional
fees associated with the due diligence, printing and distribution cost of the
disclosure statement and other aspects of the proposed settlement for asbestos
liabilities, offset by a release of environmental and legal reserves related to
indemnities that were part of our disposition of the Dresser Equipment Group and
are no longer needed.

The loss in the first nine months of 2002 was due primarily to charges
recorded for asbestos exposures. We also recorded pretax expense of $6 million
associated with the Harbison-Walker bankruptcy filing.

CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE, NET was an $8
million after-tax charge, or $0.02 per diluted share, related to our January 1,
2003 adoption of Financial Accounting Standards Board Statement No. 143,
"Accounting for Asset Retirement Obligations".

LIQUIDITY AND CAPITAL RESOURCES

We ended the third quarter of 2003 with cash and equivalents of $1.2
billion, an increase of $115 million from the end of 2002.

CASH FLOWS FROM OPERATING ACTIVITIES used $535 million in the first
nine months of 2003 compared to providing $1 billion in the first nine months of
2002. Working capital items, which include receivables, inventories, accounts
payable and other working capital, net, used $745 million of cash in the first
nine months of 2003 compared to providing $201 million in the same period of
2002. The major increases in working capital during the first nine months of
2003 included increased activity in the Middle East due to new work related to
Iraq and the commencement of the Los Alamos contract by KBR. Our government
services activities could continue to require significant amounts of working
capital in the short term. In addition, we reduced the balance under our
accounts receivable securitization facility by $180 million and made a $30
million payment to Harbison-Walker related to the debtor-in-possession
financing. Included in changes to other operating activities for the first nine
months of 2002 is a $40 million payment related to the Harbison-Walker
bankruptcy filing.

CASH FLOWS FROM INVESTING ACTIVITIES used $65 million in the first nine
months of 2003 and $417 million in the same period of 2002. Capital expenditures
of $371 million in the first nine months of 2003 were about 34% lower than in
the first nine months of 2002. We have emphasized increased capital discipline
in 2003 and expect our full year capital spending to be approximately $575
million, down compared to 2002. Capital spending in the first nine months of
2003 continued to be mainly attributable to the Energy Services Group, primarily
for directional and logging-while-drilling tools used in the Drilling and
Formation Evaluation segment. In addition, in the first quarter of 2002, we
invested $60 million in integrated solutions projects. Cash from dispositions of
businesses in the first nine months of 2003 includes $136 million collected from
the sale of Wellstream, $33 million collected from the sale of Halliburton
Measurement Systems, and $23 million collected from the sale of Mono Pumps. Also
included in cash from dispositions is $25 million collected on a note receivable
that was received as a portion of the payment for Bredero-Shaw. Dispositions of
businesses in the first nine months of 2002 included $134 million

44

collected from the sale of our European Marine Contractors, Ltd. joint venture
and $15 million collected from the sale of Bredero-Shaw. The change in
restricted cash for the first nine months of 2003 is primarily related to
collateral for potential future insurance claim reimbursements. Included in the
change in restricted cash for the first nine months of 2003 is a $108 million
deposit that collateralized an appeal bond for a patent infringement judgment on
appeal and $78 million as collateral for potential future insurance claim
reimbursements. Also included in changes in restricted cash is $27 million
primarily related to cash collateral agreements for letters of credit
outstanding on several construction projects. Proceeds from the sale of
securities in the first nine months of 2003 of $57 million primarily relate to
the sale of 2.5 million shares of National Oilwell common stock that were
received in the disposition of Mono Pumps.

CASH FLOWS FROM FINANCING ACTIVITIES provided $702 million in the first
nine months of 2003. In the first nine months of 2002, financing activities used
$272 million. Proceeds from long-term borrowings include $1.2 billion in
proceeds from the issuance of convertible senior notes, net of $25 million of
debt issuance costs. We also repaid $290 million of unsecured notes in the first
nine months of 2003. Dividends to shareholders used $164 million of cash in the
first nine months of 2003 and 2002.

CAPITAL RESOURCES from internally generated funds and access to capital
markets are sufficient to fund our working capital requirements and investing
activities. We will have to raise additional funding for the proposed asbestos
and silica settlement described below. Our combined short-term notes payable and
long-term debt was 40% of total capitalization at September 30, 2003 and 30% at
December 31, 2002. At September 30, 2003, we had $213 million in restricted
cash. See Note 7 to the financial statements. In addition, on April 15, 2002, we
entered into an agreement to sell accounts receivable to provide additional
liquidity. In the third quarter 2003, we reduced the balance on our accounts
receivable securitization facility to zero. This facility remains available to
us for future use. See Note 8 to the financial statements. Currently, we expect
capital expenditures in 2003 to be about $575 million. We have not finalized our
capital expenditures budget for 2004 or later periods.

PROPOSED ASBESTOS AND SILICA SETTLEMENT. In December 2002, we reached
an agreement in principle that, if and when consummated, would result in a
settlement of asbestos and silica personal injury claims against our
subsidiaries DII Industries, Kellogg Brown & Root and their current and former
subsidiaries with United States operations. Subsequently, during 2003, DII
Industries and Kellogg Brown & Root entered into definitive written agreements
finalizing the terms of the agreements in principle with attorneys representing
more than 90% of the current asbestos and silica claimants.

The definitive agreements provide that:

- up to $2.775 billion in cash, 59.5 million Halliburton shares
(valued at $1.4 billion using the stock price at September 30,
2003 of $24.25) and notes with a net present value of less
than $100 million will be paid to one or more trusts for the
benefit of current and future asbestos and silica personal
injury claimants upon receiving final and non-appealable court
confirmation of a plan of reorganization;

- DII Industries and Kellogg Brown & Root will retain rights to
the first $2.3 billion of any insurance proceeds, with any
proceeds received between $2.3 billion and $3 billion going
to the trust;

- the agreement is to be implemented through a pre-packaged
filing under Chapter 11 of the United States Bankruptcy Code
for DII Industries, Kellogg Brown & Root and some of their
subsidiaries with United States operations; and

- the funding of the settlement amounts would occur upon
receiving final and non-appealable court confirmation of a
plan of reorganization for DII Industries and Kellogg Brown &
Root and some of their subsidiaries with United States
operations in the Chapter 11 proceeding.

Among the prerequisites for concluding the proposed settlement are:

- completion of our review of the current claims to establish
that the claimed injuries resulted from exposure to products
of DII Industries, Kellogg Brown & Root or their subsidiaries
or former businesses or subsidiaries (Product ID due
diligence);

- completion of our medical review of the injuries alleged to
have been sustained by plaintiffs to establish a medical basis
for payment of settlement amounts;

45

- continued availability of financing, in addition to the
proceeds of our recent offerings of $1.2 billion principal
amount of convertible senior notes and $1.05 billion principal
amount of senior notes, for the proposed settlement on terms
acceptable to us in order to allow us to fund the cash amounts
to be paid in the settlement;

- obtaining approval of a plan of reorganization from at least
the required 75% of known present asbestos claimants and from
a majority of known present silica claimants in order to
complete the plan of reorganization;

- Halliburton board approval; and

- obtaining final and non-appealable bankruptcy court approval
and federal district court confirmation of the plan of
reorganization.

Many of these prerequisites are subject to matters and uncertainties
beyond our control. There can be no assurance that we will be able to satisfy
the prerequisites for completion of the settlement. If we were unable to
complete the proposed settlement, we would be required to resolve current and
future asbestos claims in the tort system or, in the case of Harbison-Walker
claims (see Note 11 to the financial statements), possibly through the
Harbison-Walker bankruptcy proceedings.

Disclosure Statement and Plan of Reorganization. In September 2003, DII
Industries, Kellogg Brown & Root and other affected Halliburton subsidiaries
began the solicitation process in connection with the planned asbestos and
silica settlement. A disclosure statement, which incorporates and describes the
Chapter 11 plan of reorganization and trust distribution procedures, has been
mailed to asbestos and silica claimants for the purpose of soliciting votes to
approve the plan of reorganization prior to filing a Chapter 11 proceeding.

As a result of an increase in the estimated number of current asbestos
claims, our estimate of the aggregate value of all claims before due diligence
considerations is $3.085 billion. In early November, we reached an agreement in
principle to limit the cash required to settle pending asbestos and silica
claimants currently subject to definitive agreements to $2.775 billion. Under
the agreement in principle, if at the completion of medical due diligence for
current claims, the cash amounts provided under the current settlement
agreements is greater than $2.775 billion, the total cash payment to each
claimant would be reduced pro rata so that the aggregate of payments would not
exceed $2.775 billion.

DII Industries, Kellogg Brown & Root and our other affected
subsidiaries are preparing a supplement to the disclosure statement mailed in
late September for circulation to known current claimants for the purpose of
soliciting acceptances of a revised plan of reorganization that incorporates the
revised terms to effect the agreement in principle. The additional time needed
to solicit acceptances to the revised plan of reorganization will likely delay
any Chapter 11 filing until sometime in December, assuming that the necessary
acceptances are promptly received and the remaining product identification due
diligence is timely provided. The agreement in principle is conditioned on a
Chapter 11 filing on or before December 31, 2003.

The terms of this revised settlement still must be approved by 75% of
known present asbestos claimants. Despite reaching the agreement in principle,
there can be no assurance that such approval will be obtained, that all members
of the asbestos claimants committee and other lawyers representing affected
claimants will support the revised settlement or that claimants represented by
members of the asbestos claimants committee and other affected claimants will
vote in favor of the revised plan of reorganization.

We are continuing our due diligence review of current asbestos claims
to be included in the proposed settlement. We have received in excess of 80% of
the necessary files related to medical evidence and we have reviewed
substantially all of the information provided. Product ID due diligence has not
moved as rapidly as the medical due diligence. However, we continue to review
medical and product ID information, and although there are no guarantees, we
expect as the time for filing approaches, the interests of the claimants in
consummating the settlement will result in us receiving the information
necessary to proceed. The representatives of the current claimants have agreed
to accelerate their submission of remaining medical and product identification
due diligence information.

The settlement agreements with attorneys representing current asbestos
claimants grant the attorneys a right to terminate their definitive agreement on
ten days' notice. While no right to terminate any settlement agreement has been
exercised to date, there can be no assurance that claimants' attorneys will not
exercise their right to terminate the settlement agreements.

In July 2003, we also reached agreement with Harbison-Walker and the
asbestos creditors committee in the Harbison-Walker bankruptcy to consensually
extend the period of the stay contained in the bankruptcy court's temporary
restraining order until September 30, 2003. The court's temporary restraining
order, which was originally entered on February 14, 2002, stayed more than
200,000 pending asbestos claims against DII Industries. The stay expired by its
terms on September 30, 2003. Discovery on the claims was stayed

46

until November 1, 2003. Trials on any of the claims that had previously been
stayed may commence as early as January 1, 2004. Notwithstanding expiration of
the stay, asbestos and silica claims against DII Industries will automatically
be stayed upon a Chapter 11 filing of DII Industries, Kellogg Brown & Root and
some of their subsidiaries with United States operations.

Harbison-Walker filed a proposed plan of reorganization on July 31,
2003. However, the proposed plan does not provide for a Section 524(g)/105
injunction for the benefit of DII Industries and other DII Industries businesses
that share insurance with Harbison-Walker, and DII Industries has not consented
to the plan. Although possible, at this time we do not believe it likely that
Harbison-Walker will propose or will be able to confirm a plan of reorganization
in its bankruptcy proceeding that is acceptable to DII Industries within the
meaning of the letter agreements with RHI Refractories.

As an alternative, DII Industries has entered into a settlement in
principle with Harbison-Walker which would resolve substantially all of the
issues between them. This agreement is subject to negotiation of definitive
documentation and court approval in Harbison-Walker's bankruptcy case. If
approved by the court in Harbison-Walker's bankruptcy case, this agreement would
provide for:

- channeling of asbestos and silica personal injury claims
against Harbison-Walker and certain of its affiliates to the
trusts created in the Chapter 11 cases being contemplated for
DII Industries and Kellogg Brown & Root;

- release by Harbison-Walker and its affiliates of any rights in
insurance shared with DII Industries on occurrence of the
effective date of plan of reorganization for DII Industries;

- release by DII Industries of any right to be indemnified by
Harbison-Walker for asbestos or silica personal injury claims;

- forgiveness by DII Industries of all of Harbison-Walker's
obligations under the debtor-in-possession financing provided
by DII Industries on the earlier of the effective date of a
plan of reorganization for DII Industries or the effective
date of a plan of reorganization for Harbison-Walker
acceptable to DII Industries;

- purchase by DII Industries of Harbison-Walker's outstanding
insurance receivables for an amount of approximately $50
million on the earliest of the effective date of a plan of
reorganization for DII Industries, the effective date of a
plan of reorganization for Harbison-Walker acceptable to DII
Industries or December 31, 2003. We recorded a $10 million
allowance in the third quarter of 2003 for an estimated
portion of uncollectible amounts related to the insurance
receivables;

- guarantee of the insurance receivable purchase price by
Halliburton on a subordinated basis; and

- negotiation between the parties on a mutually-agreeable
structure for resolving other products or mass tort claims.

Our agreement in principle reached in early November 2003 provides that
of the cash amount included as part of the proposed settlement, two-thirds of
approximately $486 million, or $326 million, of the $2.775 billion cash amount
would be paid on the earlier of (a) five days prior to the anticipated Chapter
11 filing by the affected Halliburton subsidiaries and (b) December 31, 2003, so
long as product identification due diligence information on those claims has
been timely provided and we believe that a satisfactory number of claimants have
provided acceptances to the proposed plan of reorganization prior to time for
payment. Subject to proration, the remaining one-third of these claims will be
guaranteed by Halliburton and paid on the earlier of (x) six months after a
Chapter 11 filing and (y) the date on which the order confirming the proposed
plan of reorganization becomes final and non-appealable.

Legislative proposals for asbestos reform are pending in the United
States Congress. While Halliburton's management intends to recommend to its
Board that Halliburton pursue the proposed settlement in lieu of possible
legislation, in determining whether to approve the proposed settlement and
proceed with the Chapter 11 filing of DII Industries and Kellogg Brown & Root
and some of their subsidiaries with United States operations, the Halliburton
Board of Directors will take into account the then-current status of these
legislative initiatives.

PROPOSED BANKRUPTCY OF DII INDUSTRIES, KELLOGG BROWN & ROOT AND
SUBSIDIARIES. Under the terms of the proposed settlement, the settlement would
be implemented through a pre-packaged Chapter 11 filing for DII Industries,
Kellogg Brown & Root and some of their subsidiaries with United States
operations. Other than those debtors, none of the subsidiaries of Halliburton
(including Halliburton Energy Services) or Halliburton itself will be

47

a debtor in the Chapter 11 proceedings. We anticipate that Halliburton,
Halliburton Energy Services and each of the debtors' non-debtor affiliates will
continue normal operations and continue to fulfill all of their respective
obligations in the ordinary course as they become due.

As part of any proposed plan of reorganization, the debtors intend to
seek approval of the bankruptcy court for debtor-in-possession financing to
provide for operating needs and to provide additional liquidity during the
pendency of the Chapter 11 proceeding. Halliburton intends, with the
understanding of its lenders, to provide the debtor-in-possession financing to
DII Industries and Kellogg Brown & Root. Arranging for debtor-in-possession
financing is a condition precedent to the filing of any Chapter 11 proceeding.

Any plan of reorganization will provide that all of the debtors'
obligations under letters of credit, surety bonds, corporate guaranties and
indemnity agreements (except for agreements relating to asbestos claims or
silica claims) will be unimpaired. In addition, the Bankruptcy Code allows a
debtor to assume most executory contracts without regard to bankruptcy default
provisions, and it is the intention of DII Industries, Kellogg Brown & Root and
the other filing entities to assume and continue to perform all such executory
contracts. Representatives of DII Industries, Kellogg Brown & Root and their
subsidiaries have advised their customers of this intention.

After filing any Chapter 11 proceeding, the debtors would seek an order
of the bankruptcy court scheduling a hearing to consider confirmation of the
plan of reorganization. In order to be confirmed, the Bankruptcy Code requires
that impaired classes of creditors vote to accept the plan of reorganization
submitted by the debtors. In order to carry a class, approval of over one-half
in number and at least two-thirds in amount are required. In addition, to obtain
an injunction under Section 524(g) of the Bankruptcy Code, at least 75% of
voting current asbestos claimants must vote to accept the plan of
reorganization. In addition to obtaining the required votes, the requirements
for a bankruptcy court to approve a plan of reorganization include, among other
judicial findings, that:

- the plan of reorganization complies with applicable provisions
of the Bankruptcy Code;

- the debtors have complied with the applicable provisions of
the Bankruptcy Code;

- the trust will value and pay similar present and future claims
in substantially the same manner;

- the plan of reorganization has been proposed in good faith and
not by any means forbidden by law; and

- any payment made or promised by the debtors to any person for
services, costs or expenses in or in connection with the
Chapter 11 proceeding or the plan of reorganization has been
or is reasonable.

Section 524(g) of the Bankruptcy Code authorizes the bankruptcy court
to enjoin entities from taking action to collect, recover or receive payment or
recovery with respect to any asbestos claim or demand that is to be paid in
whole or in part by a trust created by a plan of reorganization that satisfies
the requirements of the Bankruptcy Code. Section 105 of the Bankruptcy Code
authorizes a similar injunction for silica claims. The injunction also may bar
any action based on such claims or demands against the debtors that are directed
at third parties. The order confirming the plan must be issued or affirmed by
the federal district court that has jurisdiction over the case. After the
expiration of the time for appeal of the order, the injunction becomes valid and
enforceable.

The debtors believe that, if they proceed with a Chapter 11 filing,
they will be able to satisfy all the requirements of Section 524(g), so long as
the requisite number of holders of asbestos claims vote in favor of the plan of
reorganization. If the 524(g) and 105 injunctions are issued, all unsettled
current asbestos claims, all future asbestos claims and all silica claims based
on exposure that has already occurred will be channeled to a trust for payment,
and the debtors and related parties (including Halliburton, Halliburton Energy
Services and other subsidiaries and affiliates of Halliburton and the debtors)
will be released from any further liability under the plan of reorganization.

A prolonged Chapter 11 proceeding could adversely affect the debtors'
relationships with customers, suppliers and employees, which in turn could
adversely affect the debtors' competitive position, financial condition and
results of operations. A weakening of the debtors' financial condition and
results of operations could adversely affect the debtors' ability to implement
the plan of reorganization.

FINANCING THE PROPOSED ASBESTOS AND SILICA SETTLEMENT. The plan of
reorganization through which the proposed settlement will be implemented will
require us to contribute approximately $2.775 billion in cash to the Section
524(g)/105 trust established for the benefit of claimants, which we will need to
finance on terms acceptable to us. On June 30, 2003, we issued $1.2 billion of
3.125% convertible senior notes due July 15, 2023. On October

48

17, 2003, we issued $300 million of floating rate notes due October 17, 2005 and
$750 million of 5 1/2% senior notes due October 15, 2010. We intend to use a
portion of the net proceeds from the offerings to fund a portion of the cash
contribution required by the proposed settlement. In addition, we are pursuing a
number of additional financing alternatives for the cash amount to be
contributed to the trust. The availability of these alternatives depends in
large part on market conditions. We have concluded negotiations with several
banks and non-bank lenders on the terms of multiple credit facilities, the
agreements for which were signed subsequent to quarter end. There are a number
of conditions precedent that must be met before those facilities will be
effective and available for our use, one of which is the Chapter 11 filing for
DII Industries, Kellogg Brown & Root and some of their subsidiaries.

The credit facilities consist of:

- a $700 million 3-year revolving credit facility for general
working capital purposes;

- a master letter of credit facility intended to ensure that
existing letters of credit supporting our contracts remain in
place during the filing; and

- a $1.0 billion delayed-draw term facility to be available for
cash funding of the trust for the benefit of claimants.

The delayed-draw term facility is intended to eliminate uncertainty in
the capital markets concerning our ability to meet our funding requirement once
final and non-appealable court confirmation of a plan of reorganization has been
obtained.

While agreements for these credit facilities have been signed, there
can be no assurances that we will be able to meet the conditions resulting in
these facilities being effective and available for our use. Even if the
facilities become effective, they will only be available for limited periods of
time. As a result, if the debtors were delayed in filing the Chapter 11
proceeding or delayed in completing the plan of reorganization after a Chapter
11 filing, the credit facilities may not provide us with the necessary financing
to complete the proposed settlement. If the facilities do not become available
or if they become available but terminate before we complete the plan of
reorganization, we would have to terminate the proposed settlement if
replacement financing were not available on acceptable terms.

In addition, we may experience increased working capital requirements
from time to time associated with our business. An increased demand for working
capital could affect our liquidity needs and could impair our ability to finance
the proposed settlement on acceptable terms, in which case the settlement would
not be completed.

We have sufficient authorized and unrestricted shares to issue 59.5
million shares to the trust. No shareholder approval is required for issuance of
the shares.

CREDIT RATINGS. Late in 2001 and early in 2002, Moody's Investors'
Services lowered its ratings of our long-term senior unsecured debt to Baa2 and
our short-term credit and commercial paper ratings to P-2. In addition, Standard
& Poor's lowered its ratings of our long-term senior unsecured debt to A- and
our short-term credit and commercial paper ratings to A-2 in late 2001. In
December 2002, Standard & Poor's lowered these ratings to BBB and A-3. These
ratings were lowered primarily due to our asbestos exposure, and both agencies
have indicated that the ratings continue under consideration for possible
downgrade pending the results of the proposed settlement. Although our long-term
ratings continue at investment grade levels, the cost of new borrowing is higher
and our access to the debt markets is more volatile at the current rating
levels. Investment grade ratings are BBB- or higher for Standard & Poor's and
Baa3 or higher for Moody's Investors' Services. Our current ratings are one
level above BBB- on Standard & Poor's and one level above Baa3 on Moody's
Investors' Services.

We have $350 million of committed lines of credit from banks that are
available if we maintain an investment grade rating. This facility expires on
August 16, 2006. As of September 30, 2003, no amounts have been borrowed under
these lines. If our credit ratings were to fall below investment grade, our
credit line would be unavailable absent a successful renegotiation with our
banks. The $700 million 3-year revolving credit facility will replace our $350
million of committed lines of credit. We anticipate terminating the $350 million
of committed lines of credit in proximity to the Chapter 11 filing of DII
Industries and certain of its subsidiaries. Once the $350 million of committed
lines of credit is terminated, we must also enter into good faith negotiations
to amend our accounts receivable facility. Absent an agreed amendment within 60
days, amounts outstanding would be declared due and payable. As of September 30,
2003, the outstanding balance of our accounts receivable facility was zero.

49

If our debt ratings fall below investment grade, we would also be in
technical breach of a bank agreement covering $42 million of letters of credit
at September 30, 2003, which might entitle the bank to set-off rights. In
addition, a $151 million letter of credit line, of which the entire amount has
been issued as of September 30, 2003, includes provisions that allow the banks
to require cash collateralization for the full line if debt ratings of either
rating agency fall below the rating of BBB by Standard & Poor's or Baa2 by
Moody's Investors' Services. These letters of credit and bank guarantees
generally relate to our guaranteed performance or retention payments under our
long-term contracts and self-insurance.

Our Halliburton Elective Deferral Plan has a provision which states
that if the Standard & Poor's rating falls below BBB the amounts credited to the
participants' accounts will be paid to the participants in a lump sum within 45
days. At September 30, 2003 this was approximately $49 million.

In the event the ratings of our debt by either agency fall, we may have
to issue additional debt or equity securities or obtain additional credit
facilities in order to satisfy the cash collateralization requirements under the
instruments referred to above and meet our other liquidity needs. We anticipate
that any such new financing would not be on terms as attractive as those we have
currently and that we would also be subject to increased borrowing costs and
interest rates.

LETTERS OF CREDIT. In the normal course of business, we have agreements
with banks under which approximately $1.3 billion of letters of credit or bank
guarantees were issued, including at least $267 million which relate to our
joint ventures' operations. The agreements with these banks contain terms and
conditions that define when the banks can require cash collateralization of the
entire line. Agreements with banks covering at least $150 million of letters of
credit allow the bank to require cash collateralization for any reason, and
agreements covering another at least $890 million of letters of credit allow the
bank to require cash collateralization for the entire line in the event of a
bankruptcy or insolvency event involving one of our subsidiaries that will be a
party to the proposed Chapter 11 filing.

Our letters of credit also contain terms and conditions that define
when they may be drawn. At least $230 million of letters of credit permit the
beneficiary of such letters of credit to draw against the line for any reason
and another at least $560 million of letters of credit permit the beneficiary of
such letters of credit to draw against the line in the event of a bankruptcy or
insolvency event involving one of our subsidiaries who will be party to the
proposed reorganization proceedings.

Effective October 9, 2002, we amended an agreement with banks under
which $266 million of letters of credit had been issued on the
Barracuda-Caratinga project. The amended agreement removes the provision that
previously allowed the banks to require collateralization if ratings of
Halliburton debt fell below investment grade ratings. The revised agreement
includes provisions that require us to maintain ratios of debt to total capital
and of total earnings before interest, taxes, depreciation and amortization to
interest expense. The definition of debt includes our asbestos liability. The
definition of total earnings before interest, taxes, depreciation and
amortization excludes any non-cash charges related to the proposed settlement
through December 31, 2003.

As such, requirements for us to cash collateralize letters of credit
and surety bonds by issuers and beneficiaries of these instruments could be
caused by:

- our plans to place DII Industries, Kellogg Brown & Root and
some of their subsidiaries with United States operations into
a pre-packaged Chapter 11 proceeding as part of the proposed
settlement;

- in the absence of the proposed settlement, one or more
substantial adverse judgments;

- not being able to recover on a timely basis insurance
reimbursement; or

- a reduction in credit ratings.

Uncertainty may also hinder our ability to access new letters of credit
in the future. This could impede our liquidity and/or our ability to conduct
normal operations.

Our new credit facilities related to the proposed asbestos and silica
settlement include a master letter of credit facility intended to replace any
cash collateralization rights of issuers of substantially all our existing
letters of credit during the pendency of the anticipated Chapter 11 proceedings
by DII Industries and Kellogg Brown & Root and some of their subsidiaries with
United States operations. The master letter of credit facility will also provide
collateral for issuers of our existing letters of credit if such letters of
credit are drawn and the issuing bank provides

50

cash for collateral or reimbursement. If any of such existing letters of credit
are drawn during the bankruptcy and the bank issuing the letter of credit
provides cash to collateralize or reimburse for such draws, the letter of credit
facility will provide the cash needed for such draws, with any borrowings being
converted into term loans. Although this master letter of credit facility has
been signed, there are a number of conditions precedent that must be met before
the facility is effective and available for our use. If we were required to cash
collateralize letters of credit prior to the facility becoming effective, we
would be required to use cash on hand or existing credit facilities. Substantial
cash collateralization requirements prior to the new master letter of credit
facility becoming effective may have a material adverse effect on our financial
condition. In addition, representatives of DII Industries, Kellogg Brown & Root
and their subsidiaries are having continuing discussions with their customers in
order to reduce the possibility that any material draw on the existing letters
of credit will occur due to the anticipated Chapter 11 proceedings.

In the past, no significant claims have been made against letters of
credit issued on our behalf.

BARRACUDA-CARATINGA PROJECT. In June 2000, KBR entered into a contract
with the project owner, Barracuda & Caratinga Leasing Company B.V., to develop
the Barracuda and Caratinga crude oil fields, which are located off the coast of
Brazil. The construction manager and owner's representative is Petroleo
Brasilero SA (Petrobras), the Brazilian national oil company. When completed,
the project will consist of two converted supertankers which will be used as
floating production, storage and offloading units, or FPSOs, 32 hydrocarbon
production wells, 22 water injection wells and all sub-sea flow lines,
umbilicals and risers necessary to connect the underwater wells to the FPSOs.

KBR's performance under the contract is secured by:

- performance letters of credit, which together have an
available credit of approximately $266 million as of September
30, 2003 and which represent approximately 10% of the contract
amount, as amended to date by change orders;

- retainage letters of credit, which together have available
credit of $152 million as of September 30, 2003 and which will
increase in order to continue to represent 10% of the
cumulative cash amounts paid to KBR; and

- a guarantee of KBR's performance of the agreement by
Halliburton Company in favor of the project owner.

In the event that KBR is alleged to be in default under the contract,
the project owner may assert a right to draw upon the letters of credit. If the
letters of credit were to be drawn, KBR would be required to fund the amount of
the draw to the issuing banks. To the extent KBR cannot fund the amount of the
draw, Halliburton would be required to do so, which could have a material
adverse effect on Halliburton's financial condition and results of operations.
The master letter of credit facility, provided it becomes effective, will
override the reimbursement or cash collateral requirements for the period
specified in that agreement.

In addition, the proposed Chapter 11 pre-packaged bankruptcy filing by
KBR in connection with the proposed settlement of its asbestos claims would
constitute an event of default under the contract that would allow the owner
(with the approval of the lenders financing the project) to assert a right to
draw the letters of credit unless waivers are obtained. The proposed Chapter 11
filing would also constitute an event of default under the owner's loan
agreements with the lenders that would allow the lenders to cease funding the
project. We believe that it is unlikely that the owner will make a draw on the
letters of credit as a result of the proposed Chapter 11 filing. We also believe
it is unlikely that the lenders will exercise any right to cease funding the
project given the current status of the project and the fact that a failure to
pay KBR may allow KBR to cease work on the project without Petrobras having a
readily available substitute contractor. However, there can be no assurance that
the lenders will continue to fund the project or that the owner will not require
funding of the letters of credit by KBR.

In the event that KBR was determined after an arbitration proceeding to
have been in default under the contract with Petrobras, and if the project was
not completed by KBR as a result of such default (i.e., KBR's services are
terminated as a result of such default), the project owner may seek direct
damages (including completion costs in excess of the contract price and interest
on borrowed funds, but excluding consequential damages) against KBR for up to
$500 million plus the return of up to $300 million in advance payments
previously received by KBR to the extent they have not been repaid. The original
contract terms require repayment of the $300 million in advance payments by
crediting the last $350 million of our invoices to Petrobras related to the
contract by that amount.

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In addition to the amounts described above, KBR may have to pay
liquidated damages if the project is delayed beyond the original contract
completion date. KBR expects that the project will likely be completed at least
16 months later than the original contract completion date. Although KBR
believes that the project's delay is due primarily to the actions of the project
owner, in the event that any portion of the delay is determined to be
attributable to KBR and any phase of the project is completed after the
milestone dates specified in the contract, KBR could be required to pay
liquidated damages. These damages would be calculated on an escalating basis of
approximately $1 million per day of delay caused by KBR, subject to a total cap
on liquidated damages of 10% of the final contract amount (yielding a cap of
approximately $266 million as of September 30, 2003).

Finally, we may be required to pay additional value added taxes ("VAT")
related to the Barracuda-Caratinga project of up to $293 million that may be due
or become due on the project. We believe that we are entitled under applicable
law to collect VAT tax on the value of the project from Petrobras upon turnover
of the project to the project owner, and that we will be entitled to a credit
for VAT taxes we have paid. Petrobras and the project owner are contesting the
reimbursability of up to $227 million of these potential VAT taxes. In addition,
KBR is of the view that virtually all of the VAT tax chargeable to the project
is the result of a change in tax law after the contract was signed. The contract
provides that Kellogg Brown & Root is responsible for taxes in effect on the
contract date, but will be reimbursed for increased costs due to changes in the
tax laws that occur after the date of the contract. The parties agree that
certain changes in the tax laws occurred after the date of the contract, but do
not agree on how much of the increase in taxes was due to that change or which
party is responsible for ultimately paying these taxes. While Kellogg Brown &
Root does not agree, up to $144 million in VAT taxes may already be due on the
project. Up to approximately $100 million of VAT taxes may be due in stages from
November 2003 through April 2004, with the balance due in stages later in 2004.
Depending on when the VAT taxes are deemed due and when they are paid, penalties
and interest on the taxes of between $40-$100 million may also be due, the
reimbursability of which the project owner may also contest.

As of September 30, 2003, the project was approximately 78% complete
and KBR had recorded a pretax loss of $345 million related to the project. The
probable unapproved claims included in determining the loss on the project were
$182 million as of September 30, 2003. The claims for the project most likely
will not be settled within one year. Accordingly, based upon the costs incurred
on the claims, probable unapproved claims of $157 million at September 30, 2003
have been recorded to long-term unbilled work on uncompleted contracts. Those
amounts are included in "Other assets, net" on the balance sheet. KBR has
asserted claims for compensation substantially in excess of $182 million. The
project owner, through its project manager, Petrobras, has denied responsibility
for all such claims. Petrobras has, however, issued formal change orders worth
approximately $61 million which are not included in the $182 million in probable
unapproved claims.

In June 2003, Halliburton, KBR and Petrobras, on behalf of the project
owner, entered into a non-binding heads of agreement that would resolve some of
the disputed issues between the parties, subject to final agreement and lender
approval. The original completion date for the Barracuda project was December
2003 and the original completion date for the Caratinga project was April 2004.
Under the heads of agreement, the project owner would grant an extension of time
to the original completion dates and other milestone dates that averages
approximately 12 months, delay any attempt to assess the original liquidated
damages against KBR for project delays beyond 12 months and up to 18 months,
delay any drawing of letters of credit with respect to such liquidated damages
and delay the return of any of the $300 million in advance payments until after
arbitration. The heads of agreement also provides for a separate liquidated
damages calculation of $450,000 per day for each of the Barracuda and the
Caratinga vessels if delayed beyond 18 months from the original schedule
(subject to the total cap on liquidated damages of 10% of the final contract
amount). The heads of agreement does not delay the drawing of letters of credit
for these liquidated damages. The extension of the original completion dates and
other milestones would significantly reduce the likelihood of KBR incurring
liquidated damages on the project. Nevertheless, KBR continues to have exposure
for substantial liquidated damages for delays in the completion of the project.

Under the heads of agreement, the project owner has agreed to pay $69
million of KBR's disputed claims (which are included in the $182 million of
probable unapproved claims as of September 30, 2003) and to arbitrate additional
claims. The maximum recovery from the claims to be arbitrated would be capped at
$375 million. The heads of agreement also allows the project owner or Petrobras
to arbitrate additional claims against KBR, not

52

including liquidated damages, the maximum recovery from which would be capped at
$380 million. KBR believes the claims made to date by the project owner are
based on a delay in project completion. KBR's contract with the project owner
excludes consequential damages and, as indicated above, provides for liquidated
damages in the event of delay in completion of the project. While there can be
no assurance that the arbitrator will agree, KBR believes if it is determined
that KBR is liable for delays, the project owner would be entitled to liquidated
damages in amounts up to those referred to above and not to an additional $380
million.

The finalization of the heads of agreement is subject to project lender
approval. The parties have had discussions with the lenders and based on these
discussions have agreed to certain modifications to the original terms of the
heads of agreement to conform to the lenders' requirements. They have agreed
that the $300 million in advance payments would be due on the earliest of
December 7, 2004, the completion of any arbitration or the resolution of all
claims between the project owner and KBR. Likewise, the project owner's
obligation to defer drawing letters of credit with respect to liquidated damages
for the delays between 12 and 18 months would extend only until December 7,
2004. The negotiations with the lenders have been completed and the final
agreements have been sent to the lenders for their approval and signature. We
are also awaiting signature from Petrobras on the final agreement. While we
believe the lenders have an incentive to approve the final agreement and
complete the financing of the project, and the parties have agreed to the
modifications described above to secure the lenders' approval, there is no
assurance that the lenders will approve the final agreement. If the lenders do
not sign the final agreements, Petrobras may be forced to secure other funding
to complete the project. There is no assurance that Petrobras will pursue or
will be able to secure such funding. Absent completion of the final agreement,
KBR could be subject to additional liquidated damages and other claims, be
subject to the letters of credit being drawn and be required to return the $300
million in advance payments.

The project owner has procured project finance funding obligations from
various lenders to finance the payments due to KBR under the contract. The
project owner currently has no other committed source of funding on which we can
necessarily rely other than the project finance funding for the project. If the
lenders cease to fund the project, the project owner may not have the ability to
continue to pay KBR for its services. The original loan documents provide that
the lenders are not obligated to continue to fund the project if the project has
been delayed for more than six months. In November 2002, the lenders agreed to
extend the six-month period to 12 months. Other provisions in the loan documents
may provide for additional time extensions. However, delays beyond 12 months may
require lender consent in order to obtain additional funding. While we believe
the lenders have an incentive to complete the financing of the project, there is
no assurance that they would do so. If the lenders did not consent to extensions
of time or otherwise ceased funding the project, we believe that Petrobras would
provide for or secure other funding to complete the project, although there is
no assurance that it would do so. To date, the lenders have made funds
available, and the project owner has continued to disburse funds to KBR as
payment for its work on the project even though the project completion has been
delayed.

In addition, although the project financing includes borrowing capacity
in excess of the original contract amount, only $250 million of this additional
borrowing capacity is reserved for increases in the contract amount payable to
KBR and its subcontractors. Under the loan documents, the availability date for
loan draws expires December 1, 2003. As a condition to approving the heads of
agreement, the lenders will require the project owner to draw all remaining
available funds prior to December 1, 2003, and to escrow the funds for the
exclusive use of paying project costs. No funds may be paid to Petrobras or its
subsidiary (which is funding the drilling costs of the project) until all
amounts due to KBR, including amounts due for the claims, are liquidated and
paid. While this potentially increases the funds available for payment to KBR,
KBR is not party to the arrangement between the lenders and the project owner
and can give no assurance that there will be adequate funding to cover current
or future KBR claims and change orders.

CURRENT MATURITIES. We had $21 million of current maturities of
long-term debt as of September 30, 2003. In the third quarter 2003, we repaid a
$150 million medium-term note due July 2003.

CASH AND EQUIVALENTS. We ended September 30, 2003 with cash and
equivalents of $1.2 billion.

53

OFF BALANCE SHEET RISK

On April 15, 2002, we entered into an agreement to sell accounts
receivable to a bankruptcy-remote limited-purpose funding subsidiary. Under the
terms of the agreement, new receivables are added on a continuous basis to the
pool of receivables, and collections reduce previously sold accounts receivable.
This funding subsidiary sells an undivided ownership interest in this pool of
receivables to entities managed by unaffiliated financial institutions under
another agreement. Sales to the funding subsidiary have been structured as "true
sales" under applicable bankruptcy laws. While the funding subsidiary is
wholly-owned by us, its assets are not available to pay any creditors of ours or
of our subsidiaries or affiliates, until such time as the agreement with the
unaffiliated companies is terminated following sufficient collections to
liquidate all outstanding undivided ownership interests. The undivided ownership
interest in the pool of receivables sold to the unaffiliated companies,
therefore, is reflected as a reduction of accounts receivable in our
consolidated balance sheets. The funding subsidiary retains the interest in the
pool of receivables that are not sold to the unaffiliated companies and is fully
consolidated and reported in our financial statements.

The amount of undivided interests which can be sold under the program
varies based on the amount of eligible Energy Services Group receivables in the
pool at any given time and other factors. The funding subsidiary initially sold
a $200 million undivided ownership interest to the unaffiliated companies, and
could from time to time sell additional undivided ownership interests. In July
2003, however, the balance outstanding under this facility was reduced to zero.
The total amount outstanding under this facility continued to be zero as of
September 30, 2003.

ENVIRONMENTAL MATTERS

We are subject to numerous environmental, legal and regulatory
requirements related to our operations worldwide. In the United States, these
laws and regulations include the Comprehensive Environmental Response,
Compensation and Liability Act, the Resources Conservation and Recovery Act, the
Clean Air Act, the Federal Water Pollution Control Act and the Toxic Substances
Control Act, among others. In addition to the federal laws and regulations,
states where we do business may have equivalent laws and regulations by which we
must also abide.

We evaluate and address the environmental impact of our operations by
assessing and remediating contaminated properties in order to avoid future
liabilities and comply with environmental, legal and regulatory requirements. On
occasion we are involved in specific environmental litigation and claims,
including the remediation of properties we own or have operated as well as
efforts to meet or correct compliance-related matters.

We do not expect costs related to these remediation requirements to
have a material adverse effect on our consolidated financial position or our
results of operations. We have subsidiaries that have been named as potentially
responsible parties along with other third parties for nine federal and state
superfund sites for which we have established a liability. As of September 30,
2003, those nine sites accounted for approximately $7 million of our total $34
million liability. See Note 12 to the financial statements.

FORWARD-LOOKING INFORMATION

Looking ahead, we believe United States drilling activity will not
increase during the fourth quarter of this year. We expect continued strong
drilling activity onshore in North America, provided natural gas or oil prices
do not decline significantly from current levels. Activity in the United States
Gulf of Mexico has been disappointing in the first nine months of this year and
we do not expect any improvement through year-end. Outside of North America, we
expect rig counts will be flat to up slightly for the balance of the year.
Mexico has also shown a significant increase in drilling activity, and we expect
this high level of activity to continue in the near term. We expect the pricing
environment to remain steady in the fourth quarter.

In the longer-term, we expect increased global demand for oil and
natural gas, additional customer spending to replace depleting reserves and our
continued technological advances to provide growth opportunities.

The Private Securities Litigation Reform Act of 1995 provides safe
harbor provisions for forward-looking information. Forward-looking information
is based on projections and estimates, not historical information. Some
statements in this Form 10-Q are forward-looking and use words like "may", "may
not", "believes", "do not

54

believe", "expects", "do not expect", "plans", "does not plan", "anticipate",
"do not anticipate", and other expressions. We may also provide oral or written
forward-looking information in other materials we release to the public.
Forward-looking information involves risks and uncertainties and reflects our
best judgment based on current information. Our results of operations can be
affected by inaccurate assumptions we make or by known or unknown risks and
uncertainties. In addition, other factors may affect the accuracy of our
forward-looking information. As a result, no forward-looking information can be
guaranteed. Actual events and the results of operations may vary materially.

While it is not possible to identify all factors, we continue to face
many risks and uncertainties that could cause actual results to differ from our
forward-looking statements and potentially adversely affect our financial
condition and results of operations, including risks relating to:

ASBESTOS

- completion of the proposed settlement, prerequisites which
include:

- completion of required due diligence;

- continued effectiveness of our agreement in principle
to limit the cash required under the settlement to
$2.775 billion, which agreement becomes void if a
Chapter 11 filing is not made by our affected
subsidiaries by December 31, 2003;

- continued availability of acceptable financing to fund
the proposed settlement;

- Board of Directors approval;

- obtaining approval from 75% of current asbestos
claimants and the requisite silica claimants to the
plan of reorganization implementing the proposed
settlement;

- obtaining final and non-appealable bankruptcy court
approval and federal district court confirmation of the
plan of reorganization;

- finalizing the settlement agreement with
Harbison-Walker and obtaining bankruptcy court approval
thereof; and

- Harbison-Walker obtaining approval of its proposed plan
of reorganization in a form satisfactory to us;

- the results of being unable to complete the proposed
settlement, including:

- continuing asbestos and silica litigation against us,
which would include the possibility of substantial
adverse judgments, the timing of which could not be
controlled or predicted, and the obligation to provide
appeals bonds pending any appeal of any such judgment,
some or all of which may require us to post cash
collateral;

- current and future asbestos claims settlement and
defense costs, including the inability to completely
control the timing of such costs and the possibility of
increased costs to resolve personal injury claims;

- the possibility of an increase in the number and type
of asbestos and silica claims against us in the future;

- future events in the Harbison-Walker bankruptcy
proceeding; and

- any adverse changes to the tort system allowing
additional claims or judgments against us;

- the results of being unable to recover, or being delayed in
recovering, insurance reimbursement in the amounts anticipated
to cover a part of the costs incurred defending asbestos and
silica claims, and amounts paid to settle claims or as a
result of court judgments, due to:

- the inability or unwillingness of insurers to timely
reimburse for claims in the future;

- disputes as to documentation requirements for DII
Industries in order to recover claims paid;

- the inability to access insurance policies shared with,
or the dissipation of shared insurance assets by,
Harbison-Walker Refractories Company or Federal-Mogul
Products, Inc.;

- the insolvency or reduced financial viability of
insurers;

55

- the cost of litigation to obtain insurance
reimbursement;

- adverse court decisions as to our rights to obtain
insurance reimbursement; and

- settlement of our insurance claims providing for
accelerated recovery of proceeds in an amount less than
our accrual for probable insurance recoveries;

- the results of recovering, or agreeing in settlement of
litigation to recover, less insurance reimbursement than the
insurance receivable recorded in our financial statements;

- continuing exposure to liability even after the proposed
settlement is completed, including exposure to:

- any claims by claimants exposed outside of the United
States;

- possibly any claims based on future exposure to silica;

- property damage claims as a result of asbestos and
silica use; or

- any claims against any other subsidiaries or business
units of Halliburton that would not be released in the
Chapter 11 proceeding through the 524(g) injunction;

- liquidity risks resulting from being unable to complete a
settlement or timely recovery of insurance reimbursement for
amounts paid, each as discussed further below; and

- an adverse effect on our financial condition or results of
operations as a result of any of the foregoing;

LIQUIDITY

- adverse financial developments that could affect our available
cash or lines of credit, including:

- the effects described above of not completing the
proposed settlement or not being able to timely recover
insurance reimbursement relating to amounts paid as
part of a settlement or as a result of judgments
against us or settlements paid in the absence of a
settlement;

- our inability to provide cash collateral for letters of
credit or any bonding requirements from customers or as
a result of adverse judgments that we are appealing;
and

- a reduction in our credit ratings as a result of the
above or due to other adverse developments;

- requirements to cash collateralize letters of credit and
surety bonds by issuers and beneficiaries of these instruments
in reaction to:

- our plans to place DII Industries, Kellogg Brown & Root
and some of their subsidiaries into a pre-packaged
Chapter 11 bankruptcy as part of the proposed
settlement;

- in the absence of a settlement, one or more substantial
adverse judgments;

- not being able to timely recover insurance
reimbursement; or

- a reduction in credit ratings;

- continued availability of acceptable financing to fund our
proposed settlement;

- defaults that could occur under our and our subsidiaries' debt
documents as a result of a Chapter 11 filing unless we are
able to obtain consents or waivers to those events of default,
which events of default could cause defaults under other of
our credit facilities and possibly result in an obligation to
immediately pay amounts due;

- actions by issuers and beneficiaries of current letters of
credit to draw under such letters of credit prior to our
new master letter of credit facility becoming effective that
is intended to provide reasonably sufficient credit lines
for us to be able to fund any such cash requirements;

- reductions in our credit ratings by rating agencies, which
could result in:

- the unavailability of borrowing capacity under our
existing $350 million line of credit facility, which is
only available to us if we maintain an investment grade
credit rating;

- reduced access to lines of credit, credit markets and
credit from suppliers under acceptable terms;

- borrowing costs in the future; and

- inability to issue letters of credit and surety bonds
with or without cash collateral;

- working capital requirements from time to time;

- debt and letter of credit covenants;

- volatility in the surety bond market;

56

- availability of financing from the United States Export/Import
Bank;

- ability to raise capital via the sale of stock; and

- an adverse effect on our financial condition or results of
operations as a result of any of the foregoing;

LEGAL

- litigation, including, for example, class action shareholder
and derivative lawsuits, contract disputes, patent
infringements, and environmental matters;

- any adverse outcome of the SEC's current investigation into
Halliburton's accounting policies, practices and procedures
that could result in sanctions and the payment of fines or
penalties, restatement of financials for years under review or
additional shareholder lawsuits;

- trade restrictions and economic embargoes imposed by the
United States and other countries;

- restrictions on our ability to provide products and services
to Iran, Iraq and Libya, all of which are significant producers
of oil and gas;

- protective government regulation in many of the countries
where we operate, including, for example, regulations that:

- encourage or mandate the hiring of local contractors;
and

- require foreign contractors to employ citizens of, or
purchase supplies from, a particular jurisdiction;

- potentially adverse reaction, and time and expense responding
to, the increased scrutiny of Halliburton by regulatory
authorities, the media and others;

- potential liability and adverse regulatory reaction in Nigeria
to the theft from us of radioactive material used in wireline
logging operations;

- environmental laws and regulations, including, for example,
those that:

- require emission performance standards for facilities;
and

- the potential regulation in the United States of our
Energy Services Group's hydraulic fracturing services
and products as underground injection; and

- the proposed excise tax in the United States targeted at heavy
equipment of the type we own and use in our operations would
negatively impact our Energy Services Group operating income;

EFFECT OF CHAPTER 11 PROCEEDINGS

- the adverse effect on the ability of the subsidiaries that are
proposed to file a Chapter 11 proceeding to obtain new orders
from current or prospective customers;

- the potential reluctance of current and prospective customers
and suppliers to honor obligations or continue to transact
business with the Chapter 11 filing entities;

- the potential adverse effect of the Chapter 11 filing of
negotiating favorable terms with customers, suppliers and
other vendors;

- a prolonged Chapter 11 proceeding that could adversely affect
relationships with customers, suppliers and employees, which
in turn could adversely affect our competitive position,
financial condition and results of operations and our ability
to implement the proposed plan of reorganization; and

- the adverse affect on our financial condition or results of
operations as a result of the foregoing;

GEOPOLITICAL

- unrest in the Middle East that could:

- impact the demand and pricing for oil and gas;

- disrupt our operations in the region and elsewhere; and

- increase our costs for security worldwide;

- unsettled political conditions, consequences of war or other
armed conflict, the effects of terrorism, civil unrest,
strikes, currency controls and governmental actions in many
oil producing countries and countries in which we provide
governmental logistical support that could adversely affect
our revenues and profit. Countries where we operate which have
significant amounts of political risk include Afghanistan,
Algeria, Angola, Colombia, Indonesia, Iraq, Libya, Nigeria,
Russia, and Venezuela. For example, the national strike in
Venezuela as well as seizures of

57

offshore oil rigs by protestors and cessation of operations by
some of our customers in Nigeria disrupted our Energy Services
Group's ability to provide services and products to our
customers in these countries during first quarter 2003 and
likely will continue to do so throughout the remainder of
2003; and

- changes in foreign exchange rates and exchange controls as
were experienced in Argentina in late 2001 and early 2002 and
in Venezuela in fourth quarter 2002;

WEATHER RELATED

- severe weather that impacts our business, particularly in the
Gulf of Mexico where we have significant operations. Impacts
may include:

- evacuation of personnel and curtailment of services;

- weather related damage to offshore drilling rigs
resulting in suspension of operations;

- weather related damage to our facilities;

- inability to deliver materials to jobsites in
accordance with contract schedules; and

- loss of productivity; and

- demand for natural gas in the United States drives a
disproportionate amount of our Energy Services Group's United
States business. As a result, warmer than normal winters in
the United States are detrimental to the demand for our
services to gas producers. Conversely, colder than normal
winters in the United States result in increased demand for
our services to gas producers;

CUSTOMERS

- the magnitude and continuation of governmental spending and
outsourcing for military and logistical support of the type
that we provide, including, for example, support and
infrastructure services in the Balkans and Iraq;

- changes in capital spending by customers in the oil and gas
industry for exploration, development, production, processing,
refining, and pipeline delivery networks;

- changes in capital spending by governments for infrastructure
projects of the sort that we perform;

- consolidation of customers including, for example, the merger
of Conoco and Phillips Petroleum, has caused customers to
reduce their capital spending which has negatively impacted
the demand for our services and products;

- potential adverse customer reaction, including potential draws
upon letters of credit, due to their concerns about our plans
to place DII Industries, Kellogg Brown & Root and some of
their subsidiaries into a pre-packaged bankruptcy as part of
the proposed settlement;

- customer personnel changes due to mergers and consolidation
which impacts the timing of contract negotiations and
settlements of claims;

- claim negotiations with engineering and construction customers
on cost and schedule variances and change orders on major
projects, including, for example, the Barracuda-Caratinga
project in Brazil;

- delay in customer spending due to consolidation and strategic
changes such as sales of the shallow water properties in the
Gulf of Mexico and recent sale of properties in the North Sea.
Spending is typically delayed when new operators take over;
and

- ability of our customers to timely pay the amounts due us;

INDUSTRY

- changes in oil and gas prices, among other things, resulting
from:

- the uncertainty as to the timing of return of Iraqi oil
production;

- OPEC's ability to set and maintain production levels
and prices for oil;

- the level of oil production by non-OPEC countries;

- the policies of governments regarding exploration for
and production and development of their oil and natural
gas reserves;

- the level of demand for oil and natural gas, especially
natural gas in the United States; and

- the level of gas storage in the northeast United
States;

- obsolescence of our proprietary technologies, equipment and
facilities, or work processes;

58

- changes in the price or the availability of commodities that
we use;

- our ability to obtain key insurance coverage on acceptable
terms;

- non-performance, default or bankruptcy of joint venture
partners, key suppliers or subcontractors;

- performing fixed-price projects, where failure to meet
schedules, cost estimates or performance targets could result
in reduced profit margins or losses;

- entering into complex business arrangements for technically
demanding projects where failure by one or more parties could
result in monetary penalties; and

- the use of derivative instruments of the sort that we use
which could cause a change in value of the derivative
instruments as a result of:

- adverse movements in foreign exchange rates, interest
rates, or commodity prices; or

- the value and time period of the derivative being
different than the exposures or cash flows being
hedged;

SYSTEMS

- the successful installation of a new financial system to
replace the current system for the Engineering and
Construction Group;

MERGERS/REORGANIZATIONS/DISPOSITIONS

- ensuring acquisitions and new products and services add value
and complement our core businesses; and

- successful completion of dispositions.

In addition, future trends for pricing, margins, revenues and
profitability remain difficult to predict in the industries we serve. We do not
assume any responsibility to publicly update any of our forward-looking
statements regardless of whether factors change as a result of new information,
future events or for any other reason. You should review any additional
disclosures we make in our press releases and Forms 10-K, 10-Q and 8-K filed
with the United States Securities and Exchange Commission. We also suggest that
you listen to our quarterly earnings release conference calls with financial
analysts.

No assurance can be given that our financial condition or results of
operations would not be materially and adversely affected by some of the events
described above, including:

- the inability to complete a settlement;

- in the absence of a settlement, adverse developments in the
tort system, including adverse judgments and increased defense
and settlement costs relating to claims against us;

- liquidity issues resulting from failure to complete a
settlement, adverse developments in the tort system, including
adverse judgments and increased defense and settlement costs,
and resulting or concurrent credit ratings downgrades and/or
demand for cash collateralization of letters of credit or
surety bonds;

- the filing of Chapter 11 proceedings by some of our
subsidiaries or a prolonged Chapter 11 proceeding; and

- adverse geopolitical developments, including armed conflict,
civil disturbance and unsettled political conditions in
foreign countries in which we operate.

59

Item 3. Quantitative and Qualitative Disclosures about Market Risk

We are exposed to financial instrument market risk from changes in
foreign currency exchange rates, interest rates and to a limited extent,
commodity prices. We selectively manage these exposures through the use of
derivative instruments to mitigate our market risk from these exposures. The
objective of our risk management is to protect our cash flows related to sales
or purchases of goods or services from market fluctuations in currency rates.
Our use of derivative instruments includes the following types of market risk:

- volatility of the currency rates;

- time horizon of the derivative instruments;

- market cycles; and

- the type of derivative instruments used.

We do not use derivative instruments for trading purposes. We do not
consider any of these risk management activities to be material.

Item 4. Controls and Procedures

In accordance with Exchange Act Rules 13a-15 and 15d-15, we carried out
an evaluation, under the supervision and with the participation of management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of our disclosure controls and procedures as of the end of the
period covered by this report. Based on that evaluation, our Chief Executive
Officer and Chief Financial Officer concluded that our disclosure controls and
procedures were effective as of September 30, 2003 to provide reasonable
assurance that information required to be disclosed in our reports filed or
submitted under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in the Securities and Exchange Commission's
rules and forms.

There has been no change in our internal controls over financial
reporting that occurred during the three months ended September 30, 2003 that
has materially affected, or is reasonably likely to materially affect, our
internal controls over financial reporting.

60

PART II. OTHER INFORMATION

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits

* 4.1 Senior Indenture dated as of October 17, 2003 between
Halliburton and JPMorgan Chase Bank, as
Trustee.

* 4.2 First Supplemental Indenture dated as of October 17, 2003
between Halliburton and JPMorgan Chase Bank, as Trustee, to the
Senior Indenture dated as of October 17, 2003.

* 4.3 Form of note of floating rate senior notes due October 17, 2005
(included as Exhibit A to Exhibit 4.2 above).

* 4.4 Form of note of 5.5% senior notes due October 15, 2010 (included
as Exhibit B to Exhibit 4.2 above).

* 10.1 Employment Agreement (Mark A. McCollum).

* 10.2 3-Year Revolving Credit Agreement, dated as of October 30, 2003,
among Halliburton, the Banks party thereto, Citicorp North
America, Inc., as Administrative Agent, JPMorgan Chase Bank,
as Syndication Agent, and ABN AMRO Bank N.V., as Documentation
Agent.

* 10.3 Master Letter of Credit Facility Agreement, dated as of
October 30, 2003, among Halliburton, Kellogg Brown & Root, Inc.,
and DII Industries, LLC, as Account Parties, the Banks party
thereto, Citicorp North America, Inc., as Administrative Agent,
JPMorgan Chase Bank, as Syndication Agent, and ABN AMRO Bank
N.V., as Documentation Agent.

* 10.4 Senior Unsecured Credit Facility Agreement, dated as of
November 3, 2003, among Halliburton, the Banks party thereto,
Citicorp North America, Inc., as Administrative Agent, JPMorgan
Chase Bank, as Syndication Agent, and ABN AMRO Bank N.V., as
Documentation Agent.

* 12 Statement of Computation of Ratio of Earnings to Fixed Charges.

* 31.1 Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.

* 31.2 Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.

* 32.1 Certification of Chief Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.

* 32.2 Certification of Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.

* Filed with this Form 10-Q

61

(b) Reports on Form 8-K

Date of
Date Filed Earliest Event Description of Event
- -----------------------------------------------------------------------------------------------------------------

During the third quarter of 2003:

July 18, 2003 July 17, 2003 Item 9. Regulation FD Disclosure for a press release announcing a
2003 third quarter dividend.

July 21, 2003 July 21, 2003 Item 9. Regulation FD Disclosure for a press release announcing
asbestos plaintiffs agree to extend the current stay on asbestos
claims until September 30, 2003.

July 23, 2003 July 22, 2003 Item 9. Regulation FD Disclosure for a press release announcing
the Harbison-Walker bankruptcy court approved an agreement to
extend the current stay on asbestos claims through September 30,
2003.

August 4, 2003 July 31, 2003 Item 12. Disclosure of Results of Operations and Financial
Condition for a press release announcing 2003 second quarter
results.

September 3, 2003 September 2, 2003 Item 9. Regulation FD Disclosure for a press release announcing
some delays in connection with the planned asbestos and silica
settlement, but agreement is drawing near on the trust
distribution procedure, the plan of reorganization and the
disclosure statement.

September 23, 2003 September 22, 2003 Item 9. Regulation FD Disclosure for a press release announcing
DII Industries, Kellogg Brown & Root and other affected
subsidiaries have begun the solicitation process in connection
with the planned asbestos and silica settlement.

October 1, 2003 September 29, 2003 Item 9. Regulation FD Disclosure for a press release announcing
Halliburton will not request a stay extension of Harbison-Walker
bankruptcy court's temporary restraining order which expires on
September 30, 2003.

During the fourth quarter of 2003:

October 10, 2003 October 9, 2003 Item 12. Disclosure of Results of Operations and Financial
Condition for a press release revising 2003 third quarter
earnings estimate.

October 10, 2003 October 10, 2003 Item 9. Regulation FD Disclosure for a press release announcing
exchange offer and consent solicitation for debentures issued by
DII Industries, LLC.

October 15, 2003 October 14, 2003 Item 9. Regulation FD Disclosure for a press release announcing
pricing of a private offering of $1.05 billion of senior notes.

62