New Technologies And Market Recovery To Pull Halliburton In The Medium Term

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HAL Banks On Diverse Drivers

Source: Seeking Alpha

Halliburton (HAL) is more bullish on the medium to the long-term prospect than the short-term outlook. In Q3, the company's revenues and operating income will improve compared to Q2, but the demand loss associated with the pandemic's continued run can marginally trim its short-term prospect. Over the medium term, the company appears to be at the start of a upcycle. The international and North American markets can grow by the mid-teens in the next couple of years. HAL's pricing has started to improve in North America, and the international markets can replicate it the same over the next few quarters. tthe company's operating margin is likely to boost following its strategy to field superior technologies. It recently deployed SmartFleet in two US basins and deployed an advanced electric fracturing solution in a multi-year contract.

So, the future promises to shape better because of HAL's focus on enhancing the digitalization service and lower capital intensity. Despite the progress, Halliburton faces a few hiccups from low cash flows and leveraged balance sheet. Nonetheless, efficient working capital management should result in $1.2 billion FCF in FY2021. The stock is reasonably valued versus its peers at this level. Investors might want to hold it for medium to long-term gains.

The Short Term Outlook vs. Industry

Halliburton's management is optimistic about 2H 2021 and expects its results to continue to improve. It estimates that in Q3, the Completion and Production division topline will increase by high single-digit compared to Q2. In contrast, the Drilling and Evaluation division topline is expected to grow by 3% to 5%. In both the divisions, operating margins are expected to increase by 25 basis points to 50 basis points in Q3. The primary drivers for the growth are drilling outpacing completions as the energy operators build up well inventory for 2022. Since 2021, the drilled but uncompleted (or DUC) wells have declined by 14%. During this period, completed wells and drilled wells went up by 58% and 47%, respectively. While the rise has been impressive so far, the specter of a COVID return and demand pull down would claim a haircut. The pricing improvement and drilling activity momentum can slip partially in 2H versus 1H.

Factors Affecting The Medium Term Growth

Over an extended period, HAL is likely to be positioned at the start of a upcycle. Simultaneous growth in international and North American markets can lead to a CAGR of mid-teen over the next couple of years. The operating margin, by 2023, can expand by 400 basis points. Investors may note North America's share in HAL's revenues came down to 58% in Q2 2021 versus 67% a year ago. The share of international markets, on the other hand, went up to 42%. The strategy seems to be working well because global demand will continue to exceed supply, and OPEC+'s spare capacity will return to normalized levels over the next year, expect many analysts. It is also likely that the national oil companies will lead the growth in the shorter cycle production.

So, international capex can grow by double-digit over the next couple of years. If the situation does pan out, investments will mostly go to the mature fields onshore and offshore, while the greenfield exploration will be limited to Africa and Latin America. The other characteristic of the anticipated growth includes equipment supply falling behind anticipated demand in multiple product lines. Over the past couple of years, investment in new equipment, innovation, and maintenance dried up for the oilfield services companies, which has led to equipment scarcity. So, the demand and supply gap will induce higher prices for OFS providers like HAL. As of now, pricing has started moving north in North America as the company passes on inflationary cost increases to customers, setting net pricing higher. This is expected to follow suit in international territories in the coming months. Improved pricing, higher utilization, and operating leverage will push HAL's margin higher in 2H 2021 and into 2022.

HAL In The Digital Space

Halliburton remains a top OFS company not merely because of its size but also based on technical differentiation. Digital integration of its offerings contributes to higher margins and internal efficiencies. By Q2 2021, cloud revenue constituted ~20% of its software revenues, driven mainly through iEnergy public cloud. Digital technology helps the company expand its revenue base. For example, it contributed to the steady growth of remote monitoring of open-hole wireline operations in Continental Europe. In drilling operations, more than 75% of its iCruise drilling system runs are fully automated. In Europe and Eurasia, the number of automated jobs has increased 5x since the start of 2021. In Q2, it won a contract from Kuwait Oil Company that would expand the automated production management contract. KOC will use Halliburton's cloud-based subscription service DecisionSpace 365. In July, it signed a contract with Petrofac to adopt Digital Well Program - a DecisionSpace 365 cloud application to automate drilling, completions, and engineering process. During the same time, it expanded its digital collaboration with Aker BP to automate work processes and accelerate decision-making.

Role In New Age Fracking

In this context, let us look at HAL's SmartFleet intelligent fracturing system. The system combines digital capabilities and fracturing expertise. The design is technically advanced and helped HAL establish its dominance in hydraulic fracturing. It helps deliver uniform and consistent fracture distribution across clusters, improving uniform treatment placement by up to 20% compared to conventional baseline fracture stages. In Q2, it deployed SmartFleet in two US basins, which helped customers improve cluster uniformity and management of offset frac hits. In the Permian, Halliburton operated ~45% of the aggregate frac spreads in that Basin. Over the previous month (i.e., July), the frac spread count jumped up by more than 80% in the Permian, while over a year ago, it shot up by 10x. Ofcourse, the count was abysmally low during this time in 2020 when the pandemic hit the energy market hard. According to Primary Vision's forecast, the aggregate FSC in all the Basins reached 240 by the start of September and has been steady over the past couple of months. Compared to the 1H 2021 average, the current FSC is ~26% higher, which augurs well with HAL's recent focus on hydraulic fracturing.

So, the company is at the forefront of adopting cutting-edge technologies. In August, HAL deployed an advanced electric fracturing solution in a multi-year contract with Chesapeake (CHK) in the Marcellus. Applied over 25 megawatts of lower-carbon power generation, the solution is expected to reduced emissions by 32%. Halliburton's all-electric spread features a newly designed large-bore, dual-manifold trailer, which allows the pumps to achieve higher rate capacities with fewer failure points.

What Do The Industry Indicators Suggest?

https://www.eia.gov/outlooks/steo/

According to the EIA's Short Term Energy Outlook, the Brent crude oil price will remain near current levels for the remainder of 2021. In July, the price was $75, while in 2H 2021, it can hover at $72. In 2022, the Brent prices can decline to an average of $66. Crude oil production growth in OPEC+ and accelerating growth in US tight oil production can outpace the demand growth, leading to a price fall in 2022. Lower price can decentivize upstream operators to invest in new drilling, although higher production can utilize more of HAL’s equipment in the market. The net effect can still be marginally positive on Halliburton.

Free Cash Flow To steady In FY2021

HAL's free cash flow (or FCF) decreased in 1H 2021 compared to a year ago. Despite lower capex, the FCF decline was purely a function of the lower revenue and working capital deterioration. However, the management believes that an efficient working capital management and the anticipated earnings growth in 2H 2021 should result in $1.2 billion FCF in FY2021, which would be marginally higher than FY2020. Halliburton pays an annual dividend of $0.18 per share, a 0.89% forward dividend yield. HAL’s debt-to-equity is 1.8x, which is higher than Schlumberger's (SLB) (1.4x), TecnipFMC’s (FTI) (0.11x), and Baker Hughes’s (BKR) (0.44x). So, Halliburton's high leverage may come in the way of its future dividend payment. However, with increased cash flows, expect high leverage to not affect the balance sheet strength much in 2021.

A regression equation was observed based on the historical relationship among the crude oil price, global rig count, and HAL's reported revenues for the past six years and the previous eight-quarter trend. Based on the model, revenues can decrease in the next three years.

Based on a simple regression model using the average forecast revenues, expect the company's EBITDA to increase moderately in the next two years. However, in NTM (next 12 months) 2024, the EBITDA growth rate can accelerate.

Source: Seeking Alpha

Halliburton's forward EV-to-EBITDA multiple contraction versus the adjusted trailing 12-month EV/EBITDA is steeper than its peers because sell-side analysts expect HAL's EBITDA to increase more sharply than its peers in the next four quarters. Even excluding FTI, which is expected to see an EBITDA fall, the rate of EBITDA growth is higher for HAL. This typically results in a higher EV/EBITDA multiple compared to peers. The stock's EV/EBITDA multiple is higher than its peers' (SLB, BHGE, and FTI) average of 9.1x. So, the stock is reasonably valued versus its peers at this level.