|Cost efficiencies to help drive margins - still Buy - Goldman Sachs - July 30, 2007|
Reported EPS of $1.09 came in within the pre-announced range of $1.07-$1.09 and $0.01 above our estimate of $1.08. We fine tuned our 2007 EPS estimates by $0.01 to $4.78 from $4.77, due to 2Q07 outperformance relative to our estimate. Our 2008/2009 EPS estimates are unchanged. Management reiterated guidance of 19%-21% international revenue growth for 2007.
We reiterate our Buy rating for Baker Hughes shares. Following the recent sell-off, we believe that valuation is attractive relative to the peers. We see upside potential in margins, especially at INTEQ, Fluids, Atlas, and Baker Oil Tools. We believe that Fluids division will benefit somewhat from improved mix towards offshore in the coming quarters and INTEQ's margins should improve as the company comes-up the learning curve on new products and overcomes initial high repair and maintenance costs. Furthermore, we are looking forward to higher margin sales in Canada as the rig count improves. We remain concerned about potential pricing erosion in North America in the bits and fluids divisions, but believe that Baker Hughes will be able to adjust its costs structure to minimize the margin impact and preserve share.
Baker Hughes is trading at a 2008 EV-DACF/P-E of 10.0x/13.6x, versus 10.4x/12.6x for Halliburton and 14.3x/18.8x for Schlumberger. We fine tuned our 12-month price target to $99 from $100, due to slightly higher net debt.
Key risks to our thesis include:
(1) A U.S./Global recession could result in weaker commodity prices and further E&P capex cuts; and
(2) Weakness in natural gas prices could lead to further E&P capex cuts in North America.