I write fewer articles on Baker Hughes (NASDAQ:BKR ) than either Halliburton (HAL) or Schlumberger (SLB) because the investment thesis is not as clear. They aren't leaders in any oilfield category, save TPS-Turbo and Processing Solutions, and that's more of a downstream play. Don't get me wrong, they are a solid #3 and may be second in some categories, but they lead in none other than TPS.

Baker Hughes price chart (Seeking Alpha)

All of that said, with the collapse in prices since early June, taking down BKR 40% from recent highs, we need to kick the wreckage aside and take a fresh look at the company.

The company missed analyst estimates on the top and bottom lines, so that starts our analysis with a question mark, especially when rivals Halliburton and Schlumberger were storming the battlements, and throwing off record earnings and cash flow. See what I mean about the investment thesis? Even their one dominant category, TPS, was off from Q-1 significantly. Other categories inched forward, but still underperformed their competitors.

Baker Hughes earnings (Seeking Alpha)

As CEO Lorenzo Simonelli began his remarks, he was a bit more dour than his competitors at Big Blue and Big Red. He noted that inflation and central bank tightening are creating the appearance of demand destruction that could last for a year or so. Longer term, he balanced that against the need for Western economies to replace Russian barrels, which, along with global supply constraints, created an elevated base for commodity prices. Noting, though, that the outlook was still supportive for increasing activity levels from historic underinvestment.

Where he was bullish was in the gas sector; he described a frenzy of activity and a growing pipeline of LNG projects headed toward FID (Final Investment Decision). Against that he documented record LNG contracting activity that reached over 35 mpta (million tons per annum), for the first half of 2022, a tripling of average activity going back to 2015. Longer term, CEO Simonelli projected bullish trends through 2025 for LNG-

We still feel comfortable with the 100 MTPA to 150 MTPA of FIDs over the course of next two years and also continuing FID activity in 2024, 2025.

Baker is having restructuring pangs... again. Lorenzo Simonelli commented in reply to an analyst question:

We conducted a broader portfolio review that could lead to some further changes. And as a result, we think there are multiple ways we can drive more alignment between TPS and DS as well as OFS and OFE that can drive synergies between the businesses.

Also, you’ll recall that last year, we started saying we were evaluating our corporate structure across the two broad business areas of IET and OFSE. And we’ve been conducting an exhaustive and deep analysis. So as part of this exercise, we’ve been looking at a number of organizational structures that could make sense.

In my view, the company needs this like a hole in the head. And, that is probably the view of analysts as well, although they have an overweight rating on the company. Let's be reminded, BKR has been through this trauma endlessly the last decade. Beginning with the Hally bid for the company where they sold off their domestic fracturing business to satisfy the Justice Department only to have them later oppose the merger, effectively killing it. From there they lurched into a merger with General Electric (GE), which thought a combination with BKR might advantage their legacy subsea systems business. A few years after that when no synergy appeared, GE spun them off and progressively sold down their stake.

Restructurings create a lot of uncertainty in employees and clients. I've been through a couple of them and they can be tumultuous. When SLB bought Smith International in 2010, it started a 5-year process to fully integrate the two companies. I could be making more of this than there actually is, but this process does introduce uncertainty.

LNG growth is a key driver for the company. Rystad notes in the graph below a significant gap between demand and supply for the next several years. Already in a shortfall between demand of 436 MPTA and supplies of 412 MPTA, the decision by the EU to wean itself from Russian supplies has destabilized the entire market, which the article notes was already in precarious balance. Only last year the company estimates that the EU took as much as 40% of their gas from the now pariah country.

Against that backdrop Simonelli noted:

There is growing importance of natural gas and LNG as governments rebalance their priorities between sustainability, security, and affordability. We believe that solving this energy trilemma will be another long-term positive for natural gas. This theme will continue to grow in importance as countries around the world face acute energy shortages and are working to avoid industrial interruptions in certain sectors of their economies.

Overall, we remain very positive on the outlook for natural gas. We also believe that a significant increase in natural gas and LNG infrastructure investment is required over the next five to 10 years in order to make natural gas a more affordable and reliable baseload fuel source that can be paired with intermittent renewable power sources.

Indicative of this trend the company reported a number of wins in its core jet turbine business. (I described this business in some detail in the last article.) Brian Worrell, CFO, noted the expectation for revenues of $8-9 bn this and the next for TPS.

Baker will also benefit from a general uplift in drilling and completion activity that is forecast. Just not to the extent that HAL and SLB will from the same trend.

Orders for the quarter were $5.9 billion, down 14% sequentially driven by TPS and OFE, partially offset by an increase in Digital Solutions and OFS. Year-over-year, orders were up 15%, driven by increases across all four segments.

Revenue for the quarter was $5 billion, up 4% sequentially, driven by Digital Solutions, OFS, and OFE, partially offset by lower TPS volumes. Year-over-year, revenue was down 2%, driven by decreases in OFE and TPS, partially offset by increases in OFS and Digital Solutions.

Operating loss for the quarter was $25 million. Adjusted operating income was $376 million, which excludes $402 million of restructuring, impairment related to the value of their ADNOC investment, separation, and other charges. Included in these charges was $570 million related to the suspension of their operations in Russia.

Adjusted EBITDA in the quarter was $651 million, up 4% sequentially and up 6% year-over-year. Adjusted EBITDA rate was 12.9%, up 100 basis points year-over-year. The adjusted operating income and adjusted EBITDA margins were largely impacted by the suspension of their Russia operations during the quarter and foreign currency exchange movements.

BKR with almost $4bn in cash on the balance sheet has only $2.2 in net debt. A peer leading metric. They are currently generating adequate cash, ~$2.0 bn on an annual basis, to fund share buybacks of $226 mm, the 3% yielding dividend of ~$760 mm annually and capex of ~$900mm. The stock buybacks are welcome as there has been quite a bit of dilution in common shares over the last few years, with the share count rising since 2019 from 560 mm to over 1 bn.

Oilfield Services: Revenue in the quarter was $2.7 billion, up 8% sequentially. International revenue was up 8% sequentially led by increases in Sub-Saharan Africa, Latin America, Europe, and the Middle East, partially offset by lower revenues in Russia Caspian.

Oilfield Equipment: Orders for the quarter were $723 million, up 6% year-over-year, driven by a strong increase in Flexibles and Services, partially offset by a decrease in SPS and the removal of Subsea Drilling Systems from consolidated results. Revenue was $541 million, down 15% year-over-year, primarily driven by SPS, SPC, and the removal of SDS, partially offset by growth in Services and Flexibles.

Turbomachinery: Orders in the quarter were $1.9 billion, up 23% year-over-year. Equipment orders were up 38% year-over-year, driven by a gas processing award in Saudi Arabia and an order for Cheniere’s Corpus Christi Stage 3 expansion. Service orders in the quarter were up 14% year-over-year, driven by installation orders and growth in contractual and transactional services, partially offset by a decrease in upgrades.

For the full year, TPS orders are expected to be between $8 billion and $9 billion, driven by increasing LNG awards.

Digital Solutions: Orders for the quarter were $609 million, up 13% year-over-year. DS continues to see a strengthening market outlook and delivered growth in orders across Oil & Gas and Industrial end markets. Sequentially, orders were up 7% driven by higher Industrial and Power orders. As oil and gas end markets finally start to recover, DS orders are now at the highest level since the fourth quarter of 2019.

You don't have to read much of my work to know that I think Carbon Capture is akin to the Tulip Craze in the profundity of its silliness. Little by little, drips and drops of truth are beginning to escape the black hole of climate alarmism. Only this week the New York Times, in an startling lapse into veracity, published an op-ed mea culpa from two scientific types, Kurt House and Charles Harvey, that begins-

"... it’s clear that we were wrong, and that every dollar invested in renewable energy — instead of C.C.S. power — will eliminate far more carbon emissions."

None of my skepticism in this regard should dissuade you from the fact that trillions of dollars will be spent on this farce over the next decade. There is no harm in going along for the ride. Baker Hughes is.

The carbon capture business is one I've highlighted for Baker in the past. CO2 will require compression to be injected into the salt and played-out oilfield caverns are planned around the world. This is a whole new market that is only beginning to grow legs and walk. Here are my comments from the last article.

There is another nascent change occurring in the company that could well position BKR for above average growth in the coming years. It doesn't take a huge leap of imagination to realize that much of this equipment can have a dual purpose as CCUS, clean hydrogen, and emissions control gain ground in the regulatory space. Driven by tax preferences for this sort of capital outlay, there is a fertile future for Baker's TPS offerings. Toward that end BKR has reorganized these businesses under a new banner.

The Climate Technology Solutions Group or CTS will encompass CCUS, hydrogen, emissions management and clean and integrated power solutions. This new group paired with another reorganization, the Industrial Asset Management or IAM, will bring together key digital capabilities, software and hardware from across the company to help customers increase efficiencies, improve performance and reduce emissions for their energy and industrial assets. They will be under the same internal management as their offerings complement each other. Having this unity of purpose internally usually enables improved client focus which improves the service and helps to build the brand.

This application leverages their turbine advantage and should be a strong growth market in coming years globally.

I think BKR shares are largely derisked at current levels unless oil continues its current downward slide. I think if Brent were to break $70 we could see a substantial weakening, at least temporarily of the entire OFS space. I am not in the business of predicting oil prices as there are just too many factors to consider. That said, I haven't seen anything that disrupts the supply conundrum now beginning to manifest itself, and I remain bullish about regaining $100ish as we close out the year.

Baker also noted some supply chain issues in Q-2 that could be a drag on future uplift in the share price if they don't get fixed. Highlighting backlogs in chips-downhole tools are way smart these days, higher prices for metals and longer lead times in chemicals, they felt that worst of it was behind them. But, you know how that goes.

A final note. I don't have much respect for BKR upper management, specifically Lorenzo Simonelli. Simonelli was a GE wonk who was put in charge of the BKR acquisition and has overstayed his usefulness. If he were to get traded out with a real oilfield guy or gal, my whole attitude toward the company would be improved. I have no idea about this happening. It's just my take after watching him the last few years.

You can probably tell I am lukewarm on Baker. To me they are the "BP" of the service sector. (If you need a primer in the low esteem in which I hold BP, I refer you to, BP: A Primal Scream At Corporate Wokeness.) Running good businesses and making good profits in the current environment, but not setting the world on fire.

Increased shareholder returns could be on the horizon as the Russian exit, and GE exits the stock, selling its final tranche later this year. Brian Worrell comments-

Our intention is to return 60% to 80% of our free cash flow back to shareholders through dividends and buybacks is unchanged. And then as we’ve said consistently, we’ll – once that is done, we’ll take a step back and relook things.

BKR is trading at ~10X EV/EBITDA in a fairly tight range with Big Red and Big Blue. Analysts feel the company should be trading higher on the strength of the total TPS ramp to come, and have rated the company a buy. Price estimates range from current levels to the upper $40s. It's already seen the upper $30s this year so when sentiment shifts again, there could be a nice pop higher from current levels. On that basis, I have to give them a buy rating, from current levels.

For investors who wish to cash in on the coming wave of LNG and CCUS facilities, I can't think of a better stock.

This article was written by

I am an oilfield veteran of 38+ years. Retired from Schlumberger since 2015. My background is drilling and completion fluids. I have authored a number of technical papers on completion topics. I have worked around the world- Brazil, Russia, Scotland, and the Far East. I still maintain a training and consulting practice and am always willing to help people who want to learn.

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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This is not advice to buy or sell this stock or ETF in spite of the particular rating I am forced to select in the SA template. I am not an accountant or CPA or CFA. This article is intended to provide information to interested parties and is in no way a recommendation to buy or sell the securities mentioned. As I have no knowledge of individual investor circumstances, goals, and/or portfolio concentration or diversification, readers are expected to do their own due diligence before investing their hard-earned cash.