Halliburton Strikes First Blow In Oil Industry Downsizing With BHI Bid

November 15:

Summary

• Halliburton's rumored bid shows oil players recognize the oil recession.
• This should be the first deal of many, as strong balance sheets take out weak ones.
• Since these deals are done out of weakness wait for the smoke to clear before getting in.

The oil patch is finally convinced that good times are not coming back any time soon.

That's the lesson in Halliburton's (NYSE:HAL) reported move to buy Baker Hughes (NYSE:BHI).

Halliburton is going to have to use mostly stock to buy BHI, assuming a bid emerges from the current talks. It has just $14 billion in current assets, and its debt-to-assets ratio of 25% -- $7.8 billion in debt on $31.6 billion in assets -- makes further borrowings unwise. Baker Hughes, which was worth $22 billion when the talks were leaked, is now worth almost $27 billion, but it's unlikely that Halliburton would find the deal worthwhile at that price.

Instead, a stock deal on the order of $25-26 billion should be anticipated, if a deal is there to be made at all. What Halliburton would be seeking would be a stronger balance sheet. Baker Hughes carries about $5 billion in debt on $28.6 billion in assets. The combined company would have about $13 billion in debt on combined equity value of about $73 billion, but expect that value to decline through the spring as interest in oil services stocks recedes.

Combining the balance sheets, laying off redundant personnel, and "rationalizing" operations (laying off more people) would give the combined companies enough financial strength to get through a couple of years of a U.S. fracking recession, replacing some of that work with international contracts Halliburton still has in abundance.

Shares of Weatherford International (NYSE:WFT) also rose in anticipation that it could also get a bid, but that's unlikely at this point. Weatherford's balance sheet is in even worse shape than Halliburton's, with $7 billion in long term debt riding on $21 billion in assets back in March. Weatherford's market cap is just $12.6 billion, a reflection of that weak balance sheet. While some on Wall Street might see Weatherford as "cheap" given its absolute value, what companies in the sector are looking for right now is financial strength, not potential.

Whether or not a deal gets done this is probably going to be the first shot in a wealth of merger activity throughout the oil patch, as companies with strong balance sheets look to take on assets cheap, and those with weak balance sheets look for an exit strategy in a shrinking equity market. Should oil prices recover next spring - they're not expected to right now - the buyers in this case will look exceedingly strong. Should prices fail to recover, it's only those with the strongest balance sheets that will survive.

For the oilpatch, in other words, it's going to be a long, cold winter. If you're not in Halliburton right now, wait for a deal to get done before getting in. After the anticipated fall in value following a deal, Halliburton shares should be a bargain. Oil isn't dead yet - it probably has one more run left in it - but the best days of the fracking boom are behind the industry.

Source: seekingalpha.com/article/2682335-halliburton-strikes-first-blow-in-oil-industry-downsizing-with-bhi-bid?