Baker Hughes, a GE Company (NYSE:BHGE) is the amalgam of the Baker Hughes business with General Electric Company’s (NYSE:GE) energy services division. The idea was to bring two industry-leading companies together to create an even better one, which hasn’t exactly worked out as well as hoped on many levels. That said, 2018 witnessed a nice uptick on the top and bottom lines for Baker Hughes, but financially troubled GE is starting to sell its stake in the firm. Is the upturn a buying signal, or is GE’s move a warning to stay away?
The core business
Baker Hughes is one of the largest energy services companies in the world. Its business spans across the upstream (drilling), midstream (pipeline), and downstream (processing) spaces, leading the company to describe itself as a “fullstream” company. It’s a cutesy title, but pretty accurate.
Image source: Getty Images.
That said, when oil prices tanked in mid-2014, the entire energy services industry took a big hit. Projects that would get the green light at $100 per barrel oil were left on the drawing board as oil plummeted toward $30 per barrel. It was during this weak spell that GE and Baker Hughes agreed to get hitched in late 2016 (oil prices started to move up off their lows early that year). The deal was finally consummated in mid 2017, meaning the energy industry was actually starting to strengthen by the time Baker Hughes existed in its current form.
However, the merger wasn’t as smooth as hoped, with some industry watchers suggesting there was a culture clash that led to weak results and lost market share. Whatever the background, 2017 was another year of red ink for Baker Hughes. It wasn’t until 2018 when the company started to show both revenue growth and profitability, swinging to $0.46 per share in earnings (up from a loss of $0.24 per share in 2017). Notably, the company finished the year with a bang, racking up its highest order total in three years, according to management. That’s a good sign, with CEO Lorenzo Simonelli getting behind the effort by visiting in person with important customers.
Although Baker Hughes acknowledges that the energy services industry can be volatile, it looks like the company is starting to get a handle on the combined business and steer it in the right direction. In fact, management believes it is finally moving beyond the early integration phase and can start to reap the benefits of its new scale and reach. There are still a lot moving parts, but if you’re looking for a broadly diversified energy services company, the Baker Hughes story is starting to sound increasingly compelling. Except for one small detail…
The outside force
As if on cue for the business upturn, General Electric has decided that it wants to sell its stake in Baker Hughes. During the fourth quarter, the two companies worked out some of the technical details of Baker Hughes standing on its own, including how the two companies would work together in the future. But the really big issue is that General Electric is looking to take its ownership stake from 62.5% to, presumably, nothing at some point in the near future. The fourth quarter saw the first big move, here, with GE’s stock sales bringing its stake in Baker Hughes down to 50.4%.
There are two questions to ask about this situation: Why is GE selling? And what impact will the sales have on Baker Hughes’ stock price?
General Electric’s decision to sell its Baker Hughes stake doesn’t appear to be driven by anything specific going on at the energy services company. The driving force behind the move is all about GE and its dismal financial situation. The debt-heavy industrial giant needs cash to reduce leverage, and it needs it as quickly as it can get it. One of the most expedient ways to do that is to sell stuff, which it is doing throughout its business. Baker Hughes, with publicly traded shares, is probably one of the easiest assets for GE to divest.
BHGE data by YCharts.
That said, Baker Hughes shares are trading near five-year lows. You’d be correct to suggest that it’s not exactly an opportune time to sell stock in a company that appears to finally be getting back on its feet, which is why many industry watchers feel that the Baker Hughes divestment plan is a sign of desperation at GE. What you shouldn’t read into this decision is anything about Baker Hughes’ turnaround — that’s the good news.
The bad news is that GE still owns a huge position in Baker Hughes, and Wall Street knows very well that the industrial giant wants to sell. That is likely to create a headwind for Baker Hughes’ stock throughout the divestment process. The more shares the market has to absorb, the less likely good financial results will push Baker Hughes’ stock higher. Weak results, meanwhile, could have an outsized downside impact. In other words, Baker Hughes shareholders lose as long as GE still owns shares that it wants to sell. It will be hard to get too excited about Baker Hughes’ stock until GE’s share divestment is over.
Not the best time
It’s unfortunate that Baker Hughes appears to be getting back on track right as GE is trying raise cash to fund its own turnaround effort. But that’s the situation, here. Most investors will probably be better off avoiding Baker Hughes until GE’s stake is materially below the 50% level — perhaps even until its ownership position is at zero. It’s just not worth taking on the uncertainty inherent in GE’s distressed move, even though it isn’t a commentary on Baker Hughes’ fundamental performance.