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Gold/Mining/Energy : Baker Hughes
BHI 0.0580+1.8%Jun 7 5:00 PM EST

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To: Dennis Roth who wrote (9)4/27/2006 6:12:42 AM
From: Dennis Roth   of 18
 
BHI (NR): Best 1Q among the Big 3 - Goldman Sachs - April 26, 2006

We raised our '06/'07 EPS forecast by $0.40/0.48 to $4.02/$4.84 due to both higher growth assumptions and stronger incrementals. Among the Big 3, BHI posted the strongest 1Q performance relative to expectations with the highest sequential incrementals in the group. BHI's performance made up for the low incrementals in the 4Q05 compared to peers. First quarter results continue to suggest that pricing power remained strong across the board. This quarter, the benefit of price increases was most visible in the case of BHI. BHI is Not Rated.

(Goldman Sachs & Co., and or one of its affiliates is acting as advisor to Baker Hughes Incorporated in the proposed sale of its interest in WesternGeco to Schlumberger Limited. Goldman Sachs & Co., and or one of its affiliates will receive a fee for this advisory role).
HAL (OP/A) is still our favorite stock among the Big 3.

COVERAGE UPDATE: HAL IS STILL OUR FAVORITE AMONG THE BIG 3 - We continue to prefer HAL among the large caps. We still think that Exploration and Pressure Pumping should show the best pricing power/incrementals over the next 12-18 months. 1Q06 results seem to support our view that pricing power is strong for Exploration (e.g. Strong seismic, wireline and directional results across the board) and Pressure Pumping (both HAL and BJS reported strong results and announced price increases that should benefit upcoming quarters). Therefore, subject to normal quarterly lumpiness, we believe SLB (Exploration) and HAL (Pressure Pumping) have more room to beat estimates over the next 12-18 months than BHI.

IMPLICATIONS FOR THE INDUSTRY: STRONG PRICING POWER - All Oil Services companies that have reported so far indicated that pricing power remained strong across the board, with North America leading the way. "Leading edge" prices also seem solid in international markets. And even though the impact of international price increases on margins is more gradual (because of the more contract-oriented nature of these markets), it should provide a good base for healthy incrementals for the industry over the coming quarters.

BHI INCREMENTALS CATCH UP AFTER A WEAK 4Q05 - This quarter, the benefit of price increases was most visible in the case of BHI, which posted sequential incrementals of 114%, versus SLB's 68% (ex-WesternGeco) and HAL's 70% (ex-KBR). Even though the 1Q performance is certainly a big positive for BHI, it is prudent not to overstate its importance since sequential incrementals are always volatile. For instance, BHI's outperformance this quarter basically compensates for the company's weak 4Q05 incrementals of 28%, vs. SLB's 40% and HAL's 37%. In fact, using annual numbers (more robust metric and less volatile) BHI's incrementals of 43% are very similar to SLB's 39% and HAL's 43%. (Note: We tried to allocate corporate expenses and eliminations to make the numbers more comparable among the companies. Therefore, they may differ from incrementals calculated before corporate expenses. The conclusions of our analysis would be the same even if we did no adjustments. The 1Q06 sequential unadjusted incrementals for BHI/SLB/HAL are 92%/67%/81%)

WHAT TO WATCH FOR:
(1) Pace of the share buyback;
(2) Ability to improve Completions & Production division growth/margin performance to narrow the gap relative to the stronger Drilling and Evaluation division; and
(3) Execution of Eastern Hemisphere growth strategy.

RAISING ESTIMATES: We raised our '06/07 EPS forecast by $0.40/0.48 to $4.02/$4.84. The key drivers for our increased estimates were higher incremental margins and slightly higher revenues. The divisions with the largest increases were: Baker Atlas, Inteq, and Hughes Christensen. The $0.40 increase in our 2006 EPS estimate can be broken down as follows:
(1) Drilling and Evaluation (+$0.33);
(2) Completion and Production (+$0.14);
(3) Sale of Western Geco (-$0.20);
(4) Net interest expense (+$0.08);
(5) Share buy-backs (+$0.06); and
(6) other non-operating items (-$0.01).

Each of the analysts named below hereby certifies that, with respect to each subject company and its securities for which the analyst is responsible in this report, (1) all of the views expressed in this report accurately reflect his or her personal views about the subject companies and securities, and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this report: Daniel Henriques, CFA, and Daniel Boyd, CFA.

============

BHI (NR): Strong 1Q with impressive incrementals April 26, 2006

Baker Hughes 1Q06 EPS of $0.93 beat our $0.76 estimate and consensus of $0.78. Revenues were 5% above our estimates and EBIT margin of 21.4% was 310 bps better than expected due to strong incrementals (114% sequentially). BHI operating performance relative to expectations (EBIT 23% above our estimate) was stronger than SLB (5% above ex-WesternGeco) and HAL (7% above ex-KBR). Eastern Hemisphere revenues were -2% sequentially compared to SLB's -1% and HAL's -4%, while North America revenue growth of 12% compares with SLB's 18% and HAL's 12%. Guidance of $3.90-4.20 (ex- WesternGeco 1x gain), up from $3.40-3.60, is above our $3.62 est and consensus of $3.57. Revenue growth guidance of 23-25% is also higher than our 21%. BHI is rated NR. We prefer HAL (OP/A)+ SLB (NR), but BHI's strong 1Q and the recent increase in buyback authorization should lead to strong near term performance.

(Goldman Sachs & Co., and or one of its affiliates is acting as advisor to Baker Hughes Incorporated in the proposed sale of its interest in WesternGeco to Schlumberger Limited. Goldman Sachs & Co., and or one of its affiliates will receive a fee for this advisory role).

CONFERENCE CALL DETAILS BHI's conference call will begin today [ Edit: Yesterday ] at 8:30AM (ET). The dial-in number is (800) 374-2469.

Each of the analysts named below hereby certifies that, with respect to each subject company and its securities for which the analyst is responsible in this report, (1) all of the views expressed in this report accurately reflect his or her personal views about the subject companies and securities, and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this report: Daniel Henriques, CFA, and Daniel Boyd, CFA.
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