Baker Hughes Company — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. Baker Hughes is an energy technology company operating in more than 120 countries across Oilfield Services (OFS), Oilfield Equipment (OFE), Turbomachinery & Process Solutions (TPS), and Digital Solutions (DS). On September 16, GE ceased to be the controlling shareholder; its interest fell to approximately 36.8%. The company changed its name to Baker Hughes Company in October 2019.
Financial performance and position
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $5.882bn | $5.665bn | $17.490bn | $16.612bn |
| Operating income | $297m | $282m | $744m | $319m |
| Net income (loss) | $117m | $38m | $177m | ($19m) |
| Net income attributable to Baker Hughes | $57m | $13m | $80m | $64m |
| Diluted EPS, Class A | $0.11 | $0.03 | $0.15 | $0.15 |
| Operating cash flow | Not separately provided for the quarter | $769m | $673m |
- Q3 revenue increased 4%; operating income increased 5%. Approximate operating margin was 5.0% in both quarters. Nine-month revenue rose 5%; operating income more than doubled, partly reflecting lower restructuring and impairment charges.
- Q3 costs included $71m of restructuring, impairment and other charges and $54m of separation and merger costs. Nine-month amounts were $183m and $128m, respectively.
- Capital expenditures were $873m for the first nine months. Operating cash flow less capital expenditures was approximately negative $104m, compared with approximately positive $20m in 2018; this is a simple derived measure, not a company-reported free-cash-flow figure.
- At September 30, cash and cash equivalents were $2.808bn, current assets $14.769bn and current liabilities $9.332bn. Total borrowings were $7.008bn, including $6.313bn long-term debt. The $3bn revolving credit facility and $3bn commercial-paper program had no outstanding borrowings.
- Reported cash includes $528m held on behalf of GE, matched by short-term borrowings, and $1.157bn held in jurisdictions with restrictions on transfer or currency conversion. Management said 89% of cash was held outside the U.S.
- Class A dividend was $0.18 per share for Q3 and $0.54 for the nine-month period. The company paid $278m in dividends during the first nine months.
Material changes and segment results
- Q3 revenue growth came from OFS ($3.348bn, up 12%) and OFE ($728m, up 15%); TPS revenue declined 14% to $1.197bn and Digital Solutions declined 7% to $609m.
- Q3 segment operating income was $274m for OFS, $14m for OFE, $161m for TPS and $82m for Digital Solutions. Digital Solutions income declined from $106m; the other three segments improved.
- For the first nine months, OFS and OFE revenue grew 12% and 13%, respectively, while TPS fell 8% and Digital Solutions fell 4%. Management cited increased international activity for OFS and higher subsea volume for OFE; TPS declines reflected lower equipment activity and business sales.
- Nine-month net income attributable to Baker Hughes was $80m versus $64m, despite the prior-year period including a $139m equity-method loss from BJ Services. The company recorded no such loss in 2019 because equity-method accounting had been suspended.
- Cash decreased $915m from year-end 2018. Investing activities used $659m and financing activities used $996m during the first nine months.
Outlook, commentary and risks
- No specific consolidated revenue or earnings guidance was provided. Management said its outlook reflected current market conditions and remained subject to industry volatility.
- Management expected near-term North American onshore activity to continue declining as customers exhaust budgets; international activity was expected to grow more slowly. Offshore project timing remained exposed to commodity-price volatility. It viewed long-term LNG, refining, petrochemical and industrial markets positively, while noting current LNG oversupply.
- Management estimated the GE-related agreements would reduce operating margin rates by approximately 20–40 basis points and anticipated $0.2–$0.3bn of one-time separation costs over three years, mainly for IT infrastructure and transaction fees.
- The company intended to redeem the outstanding 3.2% notes due 2021, with approximately $513m principal, on November 7, 2019. Management stated that cash, operating cash flows and available credit were expected to support liquidity, while noting a significant revenue decline or cost increase could reduce cash flow and liquidity.
- Oil and gas prices and customer spending, weaker North American activity, foreign-exchange and commodity exposures, restricted overseas cash, and customer payment delays are key business and liquidity risks. OFS and OFE goodwill were described as at risk: their tested fair values exceeded carrying values by 8% and 10%, respectively, and hypothetical adverse changes in discount or growth assumptions would put fair value below carrying value.
- Material unresolved matters include German gas-storage claims, including a second arbitration alleging €142m plus interest; IEC arbitration alleging $591m in lost profits plus additional unspecified costs; DOJ inquiries concerning Iraq-related operations; SEC review of GE long-term-service-contract accounting that may include some Baker Hughes contracts; and Alaska criminal proceedings. The filing says outcomes are uncertain. It also reports approximately $4.0bn of off-balance-sheet guarantees and similar arrangements.
- The annual goodwill test found no impairment as of July 1, 2019. The filing also identifies about $32m of estimated remaining restructuring charges. Q3 effective tax rate was 48%, and the nine-month rate was 60%, primarily reflecting geographic earnings mix and losses receiving no tax benefit due to valuation allowances.
Important facts for investors to verify
- Whether international OFS growth can offset continued North American weakness, and how segment margins develop.
- Whether the anticipated GE separation costs and 20–40 basis-point margin impact remain on plan, and whether the aero-derivative joint venture closes as expected.
- Cash accessibility and liquidity after excluding GE-held funds and cash subject to local restrictions; also confirm the planned 2021-note redemption.
- Developments in at-risk OFS and OFE goodwill assumptions and the significant legal and regulatory matters noted above.
- Whether the reported earnings improvement translates into sustained cash generation given higher capital expenditures and working-capital needs.