Overall, fourth-quarter results from the integrated oilfield services companies-- Baker Hughes (BHGE), Halliburton (HAL), Schlumberger (SLB), and Weatherford International (WFT)--were in line with ongoing trends, with few surprises for investors. Across the board, the companies experienced robust revenue growth in the high single digits. Likewise, there was continued strengthening in margins, with the primary exception of Weatherford, which remains mired in a seemingly endless restructuring campaign.
The strengthening financial results are largely due to the improvement in U.S. shale operations, where activity steadily increased throughout 2017. The impact on the bottom line has occurred primarily through the benefit of operating leverage. True pricing increases have generally been scarce, even with the integrated service companies reporting tight demand for many of their products and services in the U.S. shale market. Thus far, our view has fully borne out that services pricing increases will be no obstacle to low-cost U.S. shale (and hence lower long-term oil prices).
The runup in oil prices over the past six months has elevated share prices in the group, leaving no compelling bargains. Of the group, we see Baker Hughes as the most attractively priced now, with its shares weighed down by negative sentiment regarding parent General Electric (GE). On the other hand, Halliburton looks downright expensive.
We think the decline in Baker Hughes’ share price has more than erased the former expectations for substantial value creation resulting from the merger of Baker Hughes and GE Oil & Gas, which closed in July 2017. Now the market seems to be pricing in overly negative developments for the combined company’s operations. While we recently reduced our fair value estimate for Baker Hughes, we believe our new view amply accounts for the difficulties the company will face in competing with Schlumberger and Halliburton, as well as the headwinds its turbomachinery segment will encounter in the key liquefied natural gas end market. While the potential for a breakup of GE has rightly diminished investors’ hopes that Baker Hughes will be transformed by the merger into an oilfield services company on par with Schlumberger or Halliburton, it shouldn’t augur a serious deterioration in the company’s existing competitive position. Still, we think Baker Hughes’ shares are only attractive on a relative basis, trading less than 10% below our $32 fair value estimate.
In contrast, Halliburton remains a very strong selling opportunity, in our view, with the market overrating the long-term profits the company can derive from its U.S. shale operations. Halliburton has the highest exposure to U.S. shale among oilfield services companies (about 45% of revenue versus about 25% for Schlumberger), and investors thus have seen surging U.S. shale activity as a major boost to its operations. However, we expect competitive pressures to restrain Halliburton’s long-run profitability well short of current market expectations. Most imminently, the continued addition of new pressure pumping capacity over the next year should cut into the profitability of all pressure pumpers, Halliburton included. We believe the markets are failing to appreciate that pressure pumping is a no-moat industry, where competition remains fierce.
Preston Caldwell does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.