Halliburton Revised To $71 On Deepwater and Pumping Outlook

We remain bullish on the oilfield services sector, as it is becoming more challenging and expensive to extract hydrocarbon reserves which increasingly lie in unconventional reservoirs, deep waters or fields that are in mature stages of production. In the near to medium term, we believe that  Halliburton (NYSE:HAL), the world’s second largest oilfield services company, stands to gain meaningfully, given its exposure to the recovering market for pressure pumping services in North America as well as its strengths in the deepwater completions services space.  Halliburton’s financial performance has also been strong, with earnings beating market expectations over the last 4 consecutive quarters and its free cash flows seeing significant growth over the last year. In light of the company’s improving performance and prospects, we have increased our price estimate from around $58 to about $71 , which is slightly above the current market price. In this note, we take a look at some of the key trends driving our valuation for the company.

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Biggest Beneficiary Of Recovering North American Pumping Market

Over the last two years, the market for pressure pumping services had been beset  by weak gas prices, an oversupply of horsepower and stiff competition from smaller companies. However, things have been improving of late and the excess horsepower in the market has been tightening fast. Some of the factors driving the recovery include higher natural gas prices (largely above $4.50 per MMBtu this year), increasing unconventional activity in the United States (the horizontal rig count is up by 9% year-over-year for the first 5 months) and an increasing stage count for fracking operations (see Why The Shift To Unconventionals In The Permian Will Help Oilfield Services Companies). Moreover, the number of wells drilled per rig has also been growing rapidly on the back of the adoption of pad-based drilling, and this has resulted in drilling efficiency outpacing efficiency growth for completion activities such as pumping. This is also likely to have resulted in better absorption of pressure pumping horsepower. Additionally, Halliburton has been resorting to self-help initiatives – such as improving the operational efficiencies of its fracking fleet by installing more efficient equipment, and conducting more 24-hour operations that help to cut fixed costs. Halliburton will certainly be the biggest beneficiary of a turnaround in the pressure pumping market, given that the service accounts for an estimated one-third of the company’s revenue mix. ^[1]

Halliburton’s Deepwater Growth Will Outpace Market

Deepwater contracts are lucrative to oilfield service companies because they have high service intensity, long contract lives (usually up to eight years) ^[2] and also since they allow companies to provide integrated services. The deepwater market is substantially more capital intensive compared to its shallow water and onshore counterparts. Margins are also relatively healthy since the industry is largely concentrated among just a few players who have the technical expertise to provide the services. Although the market for deepwater services could see some sluggishness in the near term owing to a dearth of large exploration successes last year, as well as an increasing focus by oil companies on boosting returns on invested capital, Halliburton has indicated that it expects its deepwater business to outgrow the market by around 25% going forward. This could be due to the fact that the demand mix for deepwater services will be geared towards development and production activity, for which Halliburton has a competitive edge. Halliburton’s new technology deployments could also give it an advantage over competitors. Some of the markets in which the company has been making significant progress include offshore West Africa and the U.S Gulf of Mexico.

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1. Oilfield Services Factbook, Howard Weil, March 2014 [↩]
2. Halliburton eyes international growth while maintaining its grip on North American unconventional, Morningstar, January 2014 [↩]