Industry And Company Outlook
We have already discussed Baker Hughes’s (BKR) Q4 2023 financial performance in our recent article. Here is an outline of its strategies and outlook. After Q4, Baker Hughes’s (BKR) management sees “weaker-than-anticipated oil demand” following the global economic uncertainty and heightened geopolitical risk. These factors, along with OPEC’s production curtailment decision, can adversely affect upstream companies’ plans. So, global drilling and completion spending can decelerate to “high single-digit growth” from the previously estimated “low double-digit growth.”
In international markets, long-term development plans are on a course that can support strong activity levels. The North American D&C activity will likely remain subdued for the short term. The drilling and completion spending in North America can decelerate to “low to mid-single-digits” as the industry’s commodity price volatility and consolidation (M&As) leave its effects.
Order Bookings
Here is an outline of BKR’s order booking and projects. During Q4, it secured two multiyear integrated services contracts in Latin America for drilling, completion, and plug and abandonment services. Offshore, it received an additional subsea trees award. In 2024, it expects LNG demand to increase by 2%. In 2025 and 2026, the global LNG markets should maintain a good utilization level. Natural gas will likely replace the high-emission coal in the energy mix for electricity generation, leading to higher LNG demand in primarily Asian countries. At the end of 2023, BKR’s total orders grew by 12% to $14.2 billion. Among this, New Energy orders grew by 45% year-over-year, while SSPS orders increased by 27%.
Gas Tech
Transactional and upgrade services accounted for approximately half of Gas Tech’s revenues, while LNG accounted for 40% of the revenue from this business. The company also sees solid growth potential in the new energy market. The IEA estimates clean energy investment at $4.5 trillion by the early 2030s and $4.7 trillion by 2050 under the current carbon reduction objectives.
Apart from LNG, BKR’s turbomachinery equipment has applications in various end markets, including upstream, midstream, refining, and petrochemical. Outside energy, these products are used in aerospace, automotive, steel, and electronics. The non-LNG markets’ installed base expanded significantly. Because these markets have grown impressively since 2020, the company’s Gas Tech Services equipment sales have gone up. In the FPSO market, it booked more than $1 billion of awards for the past two years. It sees opportunities in onshore gas processing and pipelines, particularly in the Middle East and Southeast Asia.
Business Transformation Strategy
Early in 2023, BKR implemented structural changes to its operations, including removing duplication and driving cost efficiency in the OFSE segment. The company initiated cost reduction measures nearly 18 months ago, which has resulted in over $150 million of annualized cost synergies. However, the recent actions also led to additional restructuring charges in Q4, and additional charges can be stacked in Q1 2024. These charges are primarily related to severance costs.
Nonetheless, these actions improved margins in the OFSE (Oilfield Services & Equipment) segment as the company aims to achieve 20% margins in 2025. In Q4, the operating income margin in the OFSE segment was 12%. To achieve this, the company plans to synchronize diverse systems and work towards efficient and streamlined processes and reporting. With structural margin improvements, it will serve the customers who are increasingly looking for integrated solutions as they reduce their emissions footprint.
Q1 And FY2024 Forecast
In the IET segment, the management expects seasonal declines in Gas Tech and Industrial Tech businesses. It expects to generate $2.52 billion (at the guidance mid-point) in revenues in Q1, while EBITDA can be $360 million. This means its revenues and EBITDA can decrease by 12.3% and 22%, respectively, in Q1. The pace of backlog conversion and supply chain issues can affect the operating income. In Q1, the company’s OFSE segment revenues can decline by 3%, while its EBITDA can deflate by 8% in this segment due to a seasonal decline in international revenues and a slow start in the US onshore markets.
BKR expects FY2024 revenue in the IET segment to increase by 11% compared to FY2023 while revenues in the OFSE segment can grow by 6%. Strong momentum in IET orders, particularly in non-LNG Gas Tech Equipment orders would be its primary driver. Also, a robust growth in New Energy orders can propel the topline. Read more about its Q3 results in our Baker Hughes In Q4: TAKE THREE article.
Cash Flows & Shareholder Returns
BKR’s cash flow from operations increased by 62% in FY2023 compared to a year ago, due primarily to strong progress collections on equipment contracts and an adjustment of $142 million related to employee severance as a result of restructuring activities. Its FCF more than doubled during this period. Debt-to-equity (0.39x) decreased considerably from a year ago (0.46x) because, in 2023, it repaid long-term debt of $651 million. During FY2023, it distributed $1.32 billion through shareholder returns, including $538 million of share repurchases.
Relative Valuation
Baker Hughes is currently trading at an EV/EBITDA multiple of 9x. Based on sell-side analysts’ EBITDA estimates, the forward EV/EBITDA multiple is 7.8x. The current multiple is lower than its past five-year average EV/EBITDA multiple of 10.5x.
BKR’s forward EV/EBITDA multiple contraction versus the current EV/EBITDA is marginally steeper than peers because the company’s EBITDA is expected to increase more sharply in the next four quarters. This typically results in a higher EV/EBITDA multiple than peers. The stock’s EV/EBITDA multiple is marginally lower than its peers’ (HAL, SLB, and FTI) average. So, the stock is slightly undervalued versus its peers.
Final Commentary
In 2024, BKR’s management is cautious about the global economic uncertainty and heightened geopolitical. It expects drilling and completion spending to decelerate, particularly in North America. Following the seasonal decline in international activities, its revenues and operating income can decrease in the IET and OFSE segments in Q1.
Despite that, it expects long-term development plans to support strong activity levels. Its long-term plans are based on sustained demand for LNG in the international markets. This can translate into higher turbomachinery equipment demand and increased Gas Tech Services equipment sales. It also seeks opportunities in onshore gas processing and pipelines, particularly in the Middle East and Southeast Asia. It also aims to boost its operating income margin structurally in the OFSE segment through various streamlined processes. Its cash flows also improved substantially in FY2023. This helped it increase shareholder returns through higher dividends and share repurchases. The stock appears to be undervalued versus its peers.
