Baker Hughes Company (BKR) Earnings Call Transcript & Summary

[Operator Instructions] [Audio Gap] this is a company with exposure across the energy value chain. First, I want to welcome Brian, Jud and Antonio and thank you for joining us.

Steve, it's great to be here.

Thank you. As part of Stifel's 3-day investor conference, we had several panels. The most interesting of which to me was the energy ESG panel that included some very interesting commentary about energy transition and the importance of natural gas to the future. Given Baker's strong exposure to natural gas and its commitment to achieving net-zero carbon emissions by 2050 coupled with many product lines leveraged to the global push for lower emissions, I'd like to talk to Baker Hughes about their unique position in increasingly ESG-focused world.

So Brian, if we could start with an overview of Baker's approach to energy transition and what it means for the company.

Yes. Look, absolutely, I would say that we have always been focused on driving energy transition and technology in energy and helping positively impact the environmental footprint of the industry. And our commitment really has never been more important. And we are aware of the increasing risks associated with climate change and the potential consequences. And we see ourselves playing a critical role in the transition over the long term. We've obviously made commitments internally to reduce our carbon emissions by half by 2030 and carbon neutral by 2050. But obviously, we have a big role to play with our customers. We have strong relationships across the value chain. We play in all pieces of the value chain in the oil and gas space and we've got technologies today that can make a huge difference. And I'll highlight a couple of those. But one thing you talked about natural gas and the importance of natural gas. We are very strong in the natural gas space. We have a market-leading position in LNG, as you know. We have a strong position in our Oilfield Services and Oilfield Equipment on gas field. So we feel like our technology is well suited for what we see coming down the pipe. I'd say the other thing is our compression technology can play a key role in mechanical energy storage as well as carbon capture utilization and storage, so unique versus our peer group and what we can offer in that space. We also have product offerings inside of digital solutions that are leading today, but have the opportunity to do more going forward. And these are things where we detect and minimize carbon emissions at the well site as well as at refineries and chemical plants. And these offerings today range from methane detection to reducing emissions from flaring as well as participating in the renewables energy value chain through condition-based monitoring. So look, I'd say, despite what's going on in the industry from an overall activity level and the cost-out initiatives that we're taking, we are not compromising on technology development. Our corporate strategy remains clearly focused on being the leading energy technology company and facilitate this transition and in many aspects lead this overall transition. So we're excited about the opportunities that it offers. We're well positioned with our customers and we've been having a number of conversations with them about how they're thinking about it and how we can be their partner of choice.

Thanks. You and Lorenzo have both spoken about natural gas as at least a transition fuel, if not a destination fuel. On the natural gas side specifically, can you talk about the key product lines exposed to global gas markets?

Yes. As I mentioned here, the primary exposure today to gas is through our liquefaction business, the LNG business in the Turbomachinery segment. As you know, we are the leading provider of drivers and compressors for liquefaction trains, and we've got a long track record in that space not only in the original equipment, but obviously the service contracts in that space. TPS also has exposure to gas on the upstream production side, particularly for solutions like gas reinjection as well as the midstream space in pipeline compression. In Oilfield Services and Oilfield Equipment, we have expertise in large bore gas well completions. And then our OFE product company has a suite of products that are really well suited to higher-pressure subsea gas wells. So we think we're positioned really well in the natural gas space.

And clearly, last year, you had an outstanding LNG order year. Can you talk a little bit about the prospects going forward? And obviously, 2020 is a tough year, but even a multiyear view of your expectations around global gas demand?

Yes. Look, definitely, the uncertain environment right now is likely to result in fewer FIDs for LNG in 2020 as folks delay sanctioning decisions to really better assess the economic activity and the commodity price outlook. So look, it's hard to say which specific projects will go, but we have seen some larger projects being delayed by operators, but still see a couple of the smaller LNG projects that are likely to happen this year, perhaps 1 or 2 medium to large-scale projects could FID later this year. But look, fundamentally, we still believe that the medium to long-term outlook for LNG remains pretty strong and still expect global demand to be in the 550 million to 600 million tons per annum range by 2030. And to produce 550 million to 600 million tons per annum by that time period, the industry would need to operate at about 650 million to 700 million tons per annum of nameplate capacity. And that represents significant growth versus the 460 MTPA of nameplate capacity that exists today. And of that 460, we power and are on 425 million tons per annum. So a pretty strong position today. And if you look at the 460 million plus the 30 million tons per annum that's under construction and the 90 million of FIDs that have happened over the last year or so, we still see the need for an additional 130 million to 150 million tons per annum over the next 5 to 6 years. So that's a good view of the strength of where that segment of the market can be and our position is strong, and we continue to invest in technology to stay strong in that space. And the other important aspect there is it continues to grow our installed base, which makes the service franchise even more attractive.

And speaking of the service franchise, we tend to hear these awards on the LNG front and we get excited about the OEM deliveries. But can you talk about the master service agreements and how they impact the business sort of from a long-term profitability tail?

Yes. No. Absolutely. Look, in general, the service component of an LNG project is about 2 to 3x the equipment revenue, though it's clearly spread out over a much longer period of time as our contractual service agreements run anywhere really from 7 to 20 years. The vast majority of our $13 billion aftermarket service backlog in TPS is related to LNG. And what we do there is to provide services for the installed base and manage with the customer how that equipment operates and have good visibility into the types of outages that are going to happen and the calories that the revenue and margin calories that come along with those outages. As I said, the contracts are typically 7 to 20 years. And the cadence of revenue is pretty predictable. And early in that contract within the first year, we tend to have some revenue come through as we're positioning parts and working on the installation. And then depending on where the equipment is operated and the type of gas that's flowing through there, you start getting into service events 2 to 3 years after the equipment starts running, but then have major service events in the 4- to 5-year time frame and then again, in about a 2- to 3-year cadence through the life cycle of the equipment. Look, we don't break out the margins in this space specifically for LNG, but we have said that the overall TPS segment on a full cycle basis, services is approximately double the margin rate of equipment. So that gives you a little bit of insight into how the revenue flows once equipment is actually installed. The other thing I'd tell you is our long history of understanding how this equipment operates all the intelligence we have around LNG. This allows us to provide guarantees to customers, which is incredibly important. We drive a ton of the value in an LNG project. And we have bonus and malus structures in place. So we are completely aligned with customers and have good visibility into when things will happen because of those bonus-malus structures. So the revenue is relatively stable in that piece of the portfolio.

As the global energy markets evolve, there seems to be a lot of possibilities on the energy efficiency front, electrification. You mentioned energy storage earlier. And we think about things beyond LNG, you have other low-carbon products available today, I believe. Can you talk a bit about your position around renewables?

Yes, sure. In our Digital Solutions segment, we have a Bentley Nevada business that has monitoring devices, which ensure the detectability of the most costly and critical-driven failure modes deployed on about 32,000 wind turbines globally. So this is a tremendous installed base of condition-based monitoring that we've built over the last decade. So that's a great way to participate in the renewables value stream, but obviously, without selling an end renewable product. Additionally, our turbomachinery equipment can be used to deliver mechanical storage of energy for use in peak demand for renewables. And this allows customers to store and deliver renewable-sourced energy to the grid efficiently and effectively. So again, both of these technologies actually were designed and developed for other applications. And with a few tweaks, we're able to take them to other parts of the value chain. And I think that's one of the great things about our portfolio. We've got quite a few opportunities to do that as the energy landscape changes over the medium term.

Can you elaborate a bit on the energy storage front?

Sure. Look, we -- it's primarily around compression technology where we have the capability to help deliver the multiple energy storage solutions. And we're actively marketing those solutions to customers today. Specific areas are around compressed air and liquid air energy storage. So compressor energy storage uses purpose-built underground storage caverns to store compressed air. It's then released when it's required to generate energy. And our turbomachinery equipment can be used for the compression and turbine generator solutions associated with the compressed air energy storage. We're partnered with Hydrostor in Canada to help them further develop the energy storage facilities around the world, and we supply electric motor compressor and turbine generator technology for projects of this type. Our liquid air energy storage technology uses liquid air or nitrogen as a storage medium to provide long-duration energy storage. And then it's converted back into gas involving an expansion process that releases the stored energy. And we can use our turbo expander generators to convert that energy of liquid into usable power. As the air expands, it flows through a turbine and spends it to generate electricity. So again, another example of core technology with multiple applications.

The -- within the TPS segment, the -- you have products, I believe, which are geared towards very efficient power generation and compression and part of this is around power generation for electric frac fleets. And clearly, we're in a tough spot right now on the pressure pumping side. But as this evolves, can you provide a little bit of color around powering these e-fracs?

Yes. Absolutely. Look, this is just one piece of how we've got products and technology that are helping customers tackle their own carbon emissions. And as you say, the frac market is pretty challenged right now. But look, it's an area where we can ultimately help customers reduce the amount of gas that they're flaring, reduce the amount of diesel that they're consuming, reduce the number of trucks that are on site, all of which drive lower emissions and are good for the environment but also good for profitability. So look, we have had a number of awards from customers over the past year. There is some infrastructure that's certainly required to make this market larger. But the growth of infill drilling and multi-pad structures makes the e-frac technology even more compelling and even more economically attractive to customers. So to give you an example of how it actually works. If you look at a 40,000 horsepower frac spread that requires about 30 megawatts of power, 2 of our NovaLT16-megawatt turbines could replace 20 diesel engines. 20 diesel engines consume up to about 7 million gallons of diesel fuel per year, which is about 700 tanker truckloads, rough estimates point to $15 million to $20 million of annual fuel savings and significant emission reductions associated with that. And then if you -- beyond those fuel savings and the emissions reductions, this helps our customers tackle some of their biggest challenges around infill power and logistics. I mean just coordinating the number of people and trucks on-site is costly and can cause delays. So look, today, we're working with packagers, with frac companies and even some E&Ps to build out this offering. So look, it's still early days in this space, especially with the dislocation you're seeing right now in the marketplace, but I do think this is a space that can be very attractive for us and is likely to gain more traction as things stabilize a bit.

It will be interesting who ultimately owns the power, too, whether it's the frac guys or the E&Ps or there's a collaborative effort.

That's right. That's right. So some of the business model things are still working their way through the system. But the good news is where we're playing, we are somewhat agnostic to that in that we can work with both.

In a presentation recently, you highlighted a few emerging technologies, both on the carbon capture side and on the hydrogen value chain. And I think some investors from the oil services side, I think, are still learning more and more about these technologies. Can you talk a little bit about this?

Yes. Sure. Look, we, Baker Hughes, have been involved in carbon capture projects for more than a decade, in our OFS business and then our turbomachinery technologies deployed in what's currently the world's largest carbon capture utilization and storage project in Australia. So we're having a number of deep conversations with customers on how we can help them manage their carbon footprint. And CCUS is an important component here. Look, our CO2 compression technology offerings provide very efficient solutions that will improve reliability and environmental performance of CCUS projects. And then we can provide advanced compression and pumping solutions to address the most demanding CO2 reinjection applications. In addition to overall compression, we have another suite of solutions across the value chain that include proprietary post-combustion carbon capture technology for amines and chilled ammonia processes. Our GaffneyCline and IO consulting businesses offer carbon project consultation services to help drive overall feasibility and economics and design of a project, evaluating permitting and storage reservoirs. We can help them design reliable and efficient transportation and surface facilities. So look, we've got a lot across the portfolio that plays into this space. And then on top of that, we've got a history of drilling carbon storage wells in our OFS business, where we integrate well design, drilling, completions and well construction to simplify the overall development of the CCUS facilities. And then once that's all done, we also provide monitoring and post-injection site stewardship to help ensure the long-term integrity of carbon storage reservoir. So really, a lot that we do across this space. And as it continues to grow, we think we have a unique position to work with a broad set of customers to help them take advantage of this. And the other area that I'd point out is on the hydrogen side of things. We've reconfigured our NovaLT gas turbine to operate on 100% hydrogen. And our equipment is being installed in the world's first commercial scale, 100% hydrogen fuel project in Australia. So look, this is an area that continues to grow interest with hydrogen as a fuel source, but there's obviously a lot of work that needs to go into the infrastructure to support that. But look, we've got a long history of being able to burn any combination of gases and are pleased with where we are to be able to burn 100% hydrogen. And we're committed to continuing to push this technology as it drives lower emissions to help the overall energy transition. And look, I'd say we've got a number of projects worldwide that are using our technology. I think we have about 70 that use some content of fuel mixers with a high hydrogen content, and that has a significant impact on emissions. So look, while these technologies represent a small piece of where we are today in conversations with our customers and what we see the landscape moving towards, we think these will be high-growth areas going forward and will likely attract capital -- more capital allocation throughout the value chain. So we think we're well positioned with customers today because of the technology we have and because of our proven track record of execution and innovation over decades of relationships with them.

The portfolio is clearly very large already. Do you think we see from here more organic growth? Or do you expect there'll be some tuck-in deals or maybe some larger things done over time to fill out the portfolio?

Yes. Look, I do think that we can largely accomplish our goals with the current technology and portfolio. Stephen, I wouldn't rule out tuck-in technology acquisitions or partnerships to help us grow and explore different business models. But I feel good about the portfolio where it is and think organically, we are well positioned. Look, I think we've demonstrated the ability to develop and deploy the technology. But things are changing in this space. And you got to take a look at where it makes sense to partner with others and invest to help accelerate some of the things that you have in-house. And I think a great example of that is what we have done with C3.ai in terms of investing and with a best-in-class artificial intelligence company in leveraging our domain expertise. I could see partnerships like that as we move forward with the energy transition as well.

The overview has been great. And I know you guys clearly have a lot happening outside of oil and gas. One of the things that came up on our ESG panel on Monday was the customers and what they're pulling for. And I'm curious, when you talk to customers about energy transition, what are they looking for from Baker Hughes?

Yes. Look, we -- as I said, we have been having a number of conversations with customers. I was just on one on Monday with a large international customer regarding how we can help them work through this transition. And look, I'd say they are exploring multiple ways that we can help them lower their overall carbon footprint across their existing operations, and that's a big thing that we can do with our installed base of turbines, our turbine technology, our prevalence across the value chain from upstream all the way through downstream. That is something that is very unique and gives us really a bird's eye view in looking across the operations that our customers have and figuring out how we can partner with them to continue to lower their footprint -- their carbon footprint. A couple of specific areas we're working on is, look, talking with them about installing methane detection and monitoring devices across well sites, refineries, petrochemical plants. And we've got both fixed point as well as drone-based monitoring systems that can help them. We talked about the CCUS. And then the other area that I highlighted a little bit with our partnership with C3 is while we're talking about the specific technology that we have, the solutions that we offer, there's a huge interest in artificial intelligence and the data side of how to manage all of this and they are exploring with us ways that we can use our BHC3 product and service offering to help in this space as well. So I'd say it's broad at this point in time. I think there are definitely some forward-leaning customers that are experimenting more than others. There are some that are willing to take chances and try new things. Others are waiting for things to be a bit tried and true. But overall, I'd say from everything I'm hearing from them, we are having the deepest discussions because of our broad footprint already within their operations.

When I think about energy transition, and I tend to think about things on a 5-plus-year time frame and quite honestly, probably even longer. And when I look at a company like yours, your balance sheet is in great shape, free cash flow generation, returns on capital is strong. How do you assess investments in these areas, which seem to have maybe a less visible short-term return, but are strategic in nature and probably have strong returns long term? How do you measure that and assess new investments in that area?

Yes. Stephen, it can be a challenge. But I mean, ultimately, you've got to evaluate all the investments on the same criteria, which is the return potential. So really, no real difference here. And I have to say the key to looking at things on this time horizon is to really take a portfolio approach here and have to realize that some investments are going to do incredibly well. Others will likely fall short just given the early stage we are in this. So we've got to work to make sure that we are taking a broad view of possibilities and where things could head and that we've got the right commercial and engineering talent and touch points with the customer and thought leaders in the industry to make sure that we've got a good portfolio of bets that we're taking here. And look, we continue to work with a broad cross-functional team that's helping us assess the evolving landscape of the energy transition and are being open about different business models and having a stage-gate process on some of this technology. It's -- you can't commit to multiyear development today. There needs to be clear milestones. And I think we've got a pretty solid approach to how we make the decisions to sort of kiss or kill some of these investments. So look, I think a lot of what we have today is a strong base for us to start from. So it's not like we're starting from scratch. So there's not huge upfront investment with no tangible output. We can take things where we've already invested, leverage that and make tweaks to technology. And as I said, make tweaks in some instances just to commercial teams to be able to expand what we do inside the portfolio. So look, I -- while I agree with you broadly, the returns are probably longer term in some of the investments you can make in the core today. I don't know that some of these are going to take as long as 5 years to start generating sizable returns. I think in the areas of monitoring, detection and even some of the areas we're making advances in carbon capture, I think you could see returns come in faster than that. So key there is communication, the portfolio approach and making sure you've got the right team helping you work through this.

We just have a couple of minutes left here. I wanted to ask one more to follow up on that. When we think about the impact that COVID-19 has had and some of the things as far as that you guys have done on the Digital Solutions side and remote monitoring, have you seen any change there? Do you think it impacts the traction some of these technologies may have as the world kind of gets back to normal over the next several quarters?

Yes. Stephen, I do think that is one thing that will come out of this as a positive. We've been doing remote operations and remote drilling and oilfield services for some time. I'd say we've had really good success in North America and in the North Sea, limited success outside of that. But you've had a lot more customers talking about that now, giving it a try. We've demonstrated the capability to do things more efficiently, effectively at lower cost for all of us. So I think you will see an uptake in the oilfield services space. We've done virtual string tests of LNG for the first time with a few customers now, and they really like the experience and I think find it incredibly deep and maybe even more effective than the on-site one in some instances. And then for a number of years in our turbomachinery service franchise, we've had a lot of remote capabilities where, for instance, we can work with the customer so they, along with our field engineer, can do a virtual walk-through of the equipment, use a type of technology that allows the expert in what they're trying to get done, see exactly what they're seeing virtually. And that has only increased during this limited travel and obviously, the isolation and the quarantine that's happened with what we've seen with COVID. So I do think you'll continue to see that. And I actually think in the long term, this could accelerate some of the digital efforts across the industry as folks are seeing the power of having this data, things like the digital twin along with all this performance data coming off the sensors and what it can do for remote operations. So I think it could be a net positive.

Well, thank you, Brian. This has been a great overview. We appreciate you joining the conference and spending the time. I'd also just like to let the audience know that I'm certainly around for questions, but Baker Hughes's IR team, Jud Bailey and Antonio Del Balzo as well as David Blackstone (sic) [ David Blackstock ] are all very accessible as well. So Brian, thanks for participating and, Jud and Antonio, thank you.

Great. Thanks, Stephen.

Thank you. Have good day.