Baker Hughes Company (BKR) Earnings Call Transcript & Summary

All right. Terrific. Well, we are very excited to have the first session of the day with Baker Hughes with Lorenzo. Lorenzo, thank you so much for being here.

Neil, it's great to be with you. Looking forward to the discussion. And hopefully, this being one of the last virtual sessions we have.

Hopefully, we'll never have to do it this way again. So like Lorenzo, when we talked about this, we said -- let's talk a little bit about unlocking some of the parts value and managing the energy transition, 2 really important topics. So let's dig into that. But before we do, let's turn the floor over to you to talk about what's top of mind from your seat?

Well, look, I think clearly, the energy transition and for Baker Hughes, unlocking the valuation of the company is very important. We live in some volatile times. So I think it goes to say that what's happening in the world today, the humanitarian aspects, obviously, we don't come down what's taking place. And we're managing through it like everybody else and staying focused on where we're taking the company and as an energy technology company, we think that the future is bright in our 2 business areas. So looking forward to our discussion on that today.

Well, that's a great place to kick off is on the sum of the parts value that the business carries. We think your stock is worth more than what the market is giving you credit for, but we recognize some energy companies don't always trade to the some of the parts value. So you're in the process of evaluating the structure of your own business. Can you talk broadly about the evaluation process with the assets you currently own? And what directions you want to take?

Yes, definitely, Neil. And I think, first of all, I'd agree with you and your assessment. And ultimately, we want to deliver maximum value for our shareholders, and we'll consider all options to achieve that. Back last September, we signaled that we had 2 broad business areas: one being OFSE, which is really our oilfield services and equipment side, which is more focused on the upstream, the extraction and production. And then another side of Industrial Energy Technology, IET. And it makes a lot of sense for us to start to look at the 4 product companies within those 2 business areas as it provides us the most optionality long term. Over time, we see both of these business having distinctly different growth trajectories. And just maybe starting off with the OFSE side, as you can see with what's happening in the world, there's strong cyclical tailwinds today that are taking place as demand returns and also the necessity for oil and gas, but a more mature growth profile over the next 5 to 10 years as demand slows and also as the energy transition continues to occur. As you look at Industrial Energy Technology, IET, it's going to have a much stronger growth profile driven by LNG orders and the growth of also our installed base for services, growth in hydrogen, CCUS and the opportunities that we have around industrial asset management. So much more longer-term growth trajectory as we see the energy transition not only in the oil and gas, but across multiple industries that we serve and can help people actually achieve their net zero roadmap. So we believe just as an example, hydrogen and CCUS could be a $6 billion to $7 billion business by 2030. And that would imply a CAGR growth of high single digits to low double digits for the IET business as we go forward. So at the time we made the announcement, we did indicate that it would take about 12 to 18 months to complete the internal plumbing, understanding the organizational evaluation necessary for making that long-term decision. We see synergies keeping it together at the moment. And at the end of the day, the goal is to create the best business and the corporate structure that allows us to operate efficiently and accelerate growth in our key strategic areas. So we're going to continue to evaluate, continuing to look at the various aspects and also managing through the changing landscape.

Ati?

Yes. Lorenzo, so you created 2 new groups on the industrial side of the business, right? So you have CTS, which is Climate Technology Solutions and IAM, or Industrial Asset Management. You also identified a few assets for these 2 groups. Can you talk about those businesses and how they align with these 2 new groups? As you think about these 2 groups eventually, is there room for expanding the portfolio offerings and what kind of assets would eventually be of interest?

Yes, great. And look, I'm very pleased with the creation of these 2 new groups, CTS, as you mentioned, Climate Technology Solutions and also IAM, Industrial Asset Management. And both reporting into Rod Christie and really both part of the journey that we started. And in 2019, we said we're an energy technology company. We indicated the 2 broad areas in September of 2021 relative to OFSE and also the IET side of the house. And within IET, we really see an opportunity continue to grow around Climate Technology Solutions and also Industrial Asset Management. And if we break into those, really, if you look at Climate Technology Solutions. It's bringing together our 4 growth focus areas that we've had over the last couple of years. Hydrogen, CCUS, emissions management and clean integrated power solutions, and we're going to continue to build a road map and commercial offerings that assist our customers both within the oil and gas area as well as other industries to achieve their net 0. And this is from the capabilities of switching to hydrogen, allowing CCUS to be implemented, the capturing the information around methane, CO2 emissions, greenhouse gases. And then we see clean integrated power off the grid as being a key growth trajectory as people want to have assurances of clean energy being supplied at the affordable rates. On the Industrial Asset Management side, what we're doing here is really focusing on efficiency and uptime. And as you look at operations, we're bringing together our digital software and hardware capabilities from across Baker Hughes to develop an integrated industrial asset management ecosystem to go to the market really from an energy and industrial standpoint. I liken it to, we've been very good at single-point solutions such as looking at condition monitoring, vibration. We've got valve management. We've got our services business in TPS. Now we can enhance that by bringing it all together. And so we're going to be bringing together our TPS capabilities in the service of monitoring the gas turbines. Our Bently Nevada System 1 from a vibration, our ARMS Reliability, our Augury sensor, which is a great partnership and also C3.ai from an artificial intelligence perspective. So we are really going after a wing-to-wing approach of driving efficiency in the actual process side and actually looking at wing-to-wing process. And we think that's going to achieve significant growth and also allow people to reduce their emissions, but more importantly, continue to drive uptime and efficiencies, which is what the market is placing a lot of emphasis on. Regarding future M&A that you asked, our goal is to continue to build on the current products, the core competencies we have around turbine compression technology. And we are already stepping up our R&D efforts as we invest in new technologies. And we do have opportunities for tuck-in M&A. You may have seen some of the investments we've made in early-stage technologies, Ekona, Compact Carbon Capture also Electrochaea, et cetera. And we see this as being a key way in which we're going to continue to develop industrial software and technology around hydrogen and CCUS.

Lorenzo, we'll pivot back to some of the strategic stuff here in a moment, but there's some top of mind topics based on current events and some recent user releases that we want to get into with you including this morning just before the session, you announced a new project win around LNG. So talk to us a little bit about that and how that fits into your broader LNG strategy.

We've been strong believers in LNG and in natural gas. And we've said there is no energy transition without an increasing use of natural gas and also the growth in LNG. And in fact, natural gas is both a transition and destination fuel. And I think with the events that have taken place over the last year also from the winter storm in Texas to also the necessity to continue to diversify the dependence of the energy mix away from coal to cleaner solutions. You've seen the increased opportunity of natural gas and LNG. This morning, we were pleased to announce an award for Venture Global's LNG Plaquemines project. And again, this is going to be 24 modulized compression trains across 12 blocks and it's part of the master agreement we have in place with them. We see that LNG is going to enter into, again, another super cycle. And as you look at some of the recent geopolitical situation, we think it's going to be accelerated, in particular around U.S. LNG. And we stand by our conviction that by 2030, there's going to have to be an installed base of approximately 800 MTPA to satisfy the needs of the world, and we're seeing a lot of project activity. And if anything, with events that are taking place, that may be accelerated and increase as we go forward. But we're long on natural gas and LNG. And I think we've got a unique position just given our strong historical capability, technology differentiation in really manufacturing and designing the liquefaction trends.

Yeah. Very clear the world needs more of it. And then the other topical issue is Russia and it's probably something you've been spending a lot of time on, I would imagine, over the last couple of days. Can you -- for your investors, can you help us calibrate what percentage of your mix is Russia exposure? What products? And how do you think about the go-forward there?

Yeah, Neil, it is something that's very much occupying my time and spending a lot of time also discussing with others on how to approach this. And as I mentioned at the beginning, clearly, what's happening in the Ukraine is a humanitarian disaster. And we don't condone that, and we abide by all the sanctions and the rules of law that are in place, and we work closely with all of our stakeholders. As you look at Russia, specifically, the revenues range between 3% to 6%. It's per year, it's dependent on some of the order flow over the past few years. And as you look at our activity, our businesses of oilfield services, in particular, with local activity in the extraction and the production of both oil and gas. And as you look at TPS with the aspect of some of the LNG projects that are already in place and looking for development as we go forward. And then oil field equipment with some, again, the offshore development that's been taking place. We have an installed base. We have a project backlog. We continue to support our customers through the commercial agreements that we have in place, and we obviously abide by all the current sections. So it's a dynamic situation at the moment. We're continuing to again, shift products that are required and also allowed and continue to monitor the situation very closely and condone what's happening in the Ukraine.

Yes. And the 3% to 6% of revenue is similar EBITDA margin to the rest of the business. So it's fair to say that the EBITDA impact as well potentially.

Yes, it varies again by the project activity. And so yes, it's in line with the EBITDA of the business.

Okay. Very good. Ati?

Yes. So I mean, on the traditional oilfield side, if we can touch that on a little bit, is there room for maybe an inorganic opportunity that you may think to -- that enhances the production-oriented nature of the business so that you can drive a greater return of capital strategy as you think about the competitive positioning versus other stocks?

We've been very focused in our oilfield services to stay really on our strongest, most differentiated product lines where we can drive sustainable returns and have confidence in the technology advantage. So as you look at our rotary steerable artificial lift, chemicals as well as digital innovations around remote operations. So we feel we've got a good large presence in both the lift and the chemicals. I don't see much M&A, but we'll always stay on the lookout if there's a technology differentiation that can add and bolster our capability within these areas that were already strong.

Great. Great. Let's pivot over to industrial energy technology and start on carbon capture. You have compressors in your portfolio and have some other equipment around carbon capture. Can you talk about the spectrum of offerings that you have for CCUS? And where you think your portfolio eventually is going to evolve to? And Lorenzo, do you eventually see room for the full spectrum of carbon capturing offerings across both sides of the company.

Well, definitely, I think Baker Hughes is really uniquely positioned to benefit from opportunities in carbon capture. And when you look at the portfolio, really, we have a unique portfolio that plays across the different areas. And if you think about post-combustion capture, compression, subsurface storage services like well construction and reservoir modeling, long-term integrity and monitoring and utilization. And I think people forget that we've been in the aspect of CCUS for many years. If you look at our compression capability, we've been working with CO2 for over 50 years and also a similar time line for hydrogen as well, which I'm sure we'll get into. I think the capability we have is also evidenced by the Moomba CCS project in Australia with Santos that we announced earlier on. And today, we've got a full portfolio of compression to actually help from the pumping products and also the full spectrum of CO2 applications. So I view it as a very attractive area. And I agree with you. We're going to see continued focus on high-pressure reciprocating compressors, which allow higher flows, centrifical compressors. And our portfolio will continue to be very attractive in these areas. As you look at capture, again, from a capture standpoint, we've been focusing on new technologies. We've got a chilled ammonia process, which, again, our equipment is back to. We've got free sea, which we've mentioned before. Compact Carbon capture, which really utilizes rotating bed technologies. And it can be used in the offshore industry in cement factories and shipping. It's really a nice modular approach towards CCUS and also as you look at the mix sort process. So during the course of the last few years, we've developed a broad range of technologies and capabilities for capture. And on utilization, I think it's -- our compression technology really allows us to compress carbon into a liquid-like substance, which makes it easier for transport and reuse. We've also invested in a company called Electrochaea, which utilizes carbon to combine with methane to create synthetic and natural gas. So we see this as being a huge opportunity. To your point, it really is the full wing portfolio. And I think we will see opportunities to really provide carbon as a service. And I think as you go to set an industry segments -- and in fact, as you look outside of the oil and gas sector, companies are going to view it like waste management. And CO2 or greenhouse gases and emissions, they're going to look for providers and partnerships that can actually take it off their hands and deal with it. And that's something that we're exploring from a commercial model perspective with different partners. You've seen our announcement around bulk CO2, Horisont Energi, and we think that's a market that's developing.

Great. Lorenzo, you mentioned that the CTS segment will house a few technologies and one among them being emissions management. What are your key areas of focus here, especially as it comes to your capabilities around monitoring and managing methane emissions? How big of a market do you think this could be in the U.S. and internationally for that matter? And what are the catalysts for this market to start picking up?

Well, I think just look at what happened yesterday, and the OGCI made an announcement relative to a methane commitment. And if you think about emission management and you think about how it fits into Climate Technology Solutions, you begin by detecting and understanding where the emissions are. And so within our emissions management, we've got the capability to assess and understand what the greenhouse gas footprint is in different operations. We've got capabilities such as Avitas, with drone and land-based centers to be able to detect methane leakage. We've got the opportunity to see the CO2 content and again capture that information. So emissions management, it starts off with the detection. Then you start to work towards, okay, how do you avoid the actual methane or the CO2 and then you have products and solutions such as flare.IQ for flare stack, which actually reduce the methane that's being flared. And we see this as a big opportunity as well, in line with what the OGCI announced relative to being able to take at the entry point, the emissions away from the process. . If you take it a step further, then on CO2 and also the ability to reduce the carbon footprint in greenhouse gases, you move into CCUS, you move into hydrogen and you move into clean integrated power systems. And that all in all starts with the emissions management because you understand what you're going after. And we think as the world goes forward, there's going to be more requirement for certifications and also probably likely more regulatory aspects that require you to understand your footprint of greenhouse gases. So we like the way Climate Technology Solutions has all 4 elements. And it starts with emissions management, but then obviously goes into the CCUS, the hydrogen and clean integrated power.

That's great, Lorenzo. So when you think about the emissions management offerings, it has the potential to leverage digital assets from the industrial asset management side of the segment as well as synergies in the oilfield offerings that you have on the traditional side of the business. How do you think about this offering? Will it be an integrated offering across these segments and the eventual entities that you would think of? Will it be all from the CTS side of the industrial business?

No. And I think it will actually stem across the overall traditional offerings as well. We'll start to connect more and more. And we have over 15 technologies today across oilfield services, digital solutions and turbomachinery process solutions that reduce emissions. And so what we're looking to do is within emission solutions really find commercial value for our customers in OpEx as well as productivity and CapEx savings. So we plan to actually go across the board with our customers and where Baker Hughes brings the actually emission solutions to traditional areas as well. And I go back to a flare stack. We've got our oilfield services team that's out there in the field understands where flaring is taking place. And they link into emissions management. Just likewise our TPS sales force, which is in refineries and seeing the leads that are happening, we'll be able to go in there with the capabilities and link it into industrial asset management. There is a very clear linkage also on the digital side of things where you can now start to use that ecosystem of better productivity efficiency from software to reduce your carbon footprint, [ reduce ] greenhouse gases once you understand them, and that emission management solution allows you to understand the foundation.

Lorenzo, let's talk a little bit about the hydrogen opportunity set. You had mentioned that earlier. How do you think about the technologies that are in your portfolio? And then maybe to step back, you've talked about carbon capture. You've talked about hydrogen, you talked about LNG. How do you think about the sequencing of these businesses and when they scale and the cadence of the opportunities there?

Yes. I think -- and again, we've been on a journey. And I think energy transition is a transition because it will take time and it will evolve over time. And just like LNG has evolved, so will the elements of compact carbon capture as well as the benefit of hydrogen evolved. And we said that by 2030, CCUS and hydrogen represent a $67 billion opportunity for us in an addressable market of $60 billion to $70 billion. And if you think about the sequence, clearly, LNG right now is on an up cycle. And you're going to have a lot of LNG projects that are sanctioned over the course of the next 1 to 3 years. We said that there's as much as 100 to 150 MTPA that's going to be sanctioned going forward to achieve the required installed capacity for 2030. And with that, then you're going to start to look at how do you reduce spending? How do you employ some of the flare.IQ? How do you employ 0 methane leakage? E-drive solutions. And that will be the first start. The second start is, of course, utilizing CCUS from a standpoint of the energy transition within LNG as well. And we're one of the first to have made investments here in 2020 on the offshore industry. And we see that LNG will go towards CCUS and Compact Carbon Capture and the technologies I mentioned before are going to be the first movers. Then if you think about from CCUS LNG, you're going to see the emergence of hydrogen. And you may have seen that we announced also an investment in Ekona, a growth strategy company developing noble turquoise hydrogen production technology. And if you think about that, it's a huge way of complementing really the ability to start to use hydrogen in the energy mix and also to create a carbon offset as well as a carbon black opportunity. So we see great benefits of turquoise hydrogen. Also we see blue hydrogen as well as green hydrogen. You may have seen that we're on the largest blue hydrogen project in the Canada, Edmonton as well as the largest green project hydrogen in the Kingdom of Saudi Arabia. So we see that those are continuing to develop. And also recently we announced NET Power, and that was our latest transaction a couple of weeks ago. And with our partners, we see that we'll be able to provide supercritical CO2 turbo expanders used to generate power. So then you start to go into the clean integrated power aspect and reducing the carbon footprint. So it's a logical sequence of steps. And as you look at our growth, we already announced orders in 2021 of over $200 million in the energy transition. We said that it could well be between [ $100 million to $200 million ] more the upper end there. It's going to be lumpy. I think if anything, it will be accelerated as we go forward. And again, we see that pipeline of opportunities to get to the $6 billion to $7 billion business being created by 2030.

Lorenzo, let's spend some time on the financial side of the equation, both capital returns and then free cash flow conversion. You've come out with EBITDA guidance, I believe, 50% of EBITDA to free cash flow. How is that on track? And how should we think about the free cash flow of the power of the business in '22, recognizing '21 was a pretty good year for the company on that basis.

Yes. Look, first of all, very pleased about the performance by the team on 2021 relative to cash generation. And we have, obviously, a buyback in place. And right now we're on a pace of $100 million per month. We plan to keep that pace probably into the third quarter of '22, which is when we think he should be finished with the sell-down process. So if you think that suggests we're on pace to return roughly 90% free cash flow back to shareholders in 2022, and that's based on current consensus estimates. If you take into account our dividend, which will be around $725 million this year at the current pace of the buybacks. Looking beyond GE, we think about capital returns in 3 broad buckets. And that's cash returned to shareholders via dividends and buybacks. We're going to be maintaining a consistent dividend buyback at least $200 million to $300 million in stock on a yearly basis. We've got about $1 billion minimum in shareholder returns. And to the extent free cash flow is stronger than $1 billion, we'd have flexibility to buy back more stock or other uses of capital. So overall, we would generally expect to return 60% to 80% of free cash flow to shareholders every year, but with a floor of about $1 billion. And the amount will fluctuate year-to-year depending on the valuations and other opportunities. Tuck-in M&A, we're going to look and focus on small companies generating revenue and positive EBITDA, early-stage companies with scalable technologies that complement existing portfolio extremely well. And we like to fund these through investments through a combination of debt and cash on hand. If you think about examples of the acquisition like ARMS Reliability and Polyflow that we've made. And then thirdly, strategic or early-stage investments, and these are likely pre-revenue. And we'll target investing $300 million to $500 million in this area over the course of the next 3 years. And we're likely to fund these investments through cash on hand. And examples are such as Augury, Ekona that we've mentioned, NET Power. And so as you think about it, we've got a continually opportunity to recycle capital with M&A. Since 2017, we generated about $1 billion in asset sales, simplifying our portfolio, exiting low-return and noncore activities. We've also deployed around $1 billion in tuck-in M&A and investments, better positioning our company. And we also look at our dividend, but buybacks are more likely option near term to return cash to shareholders. So we're committed to returning cash to shareholders since the company was formed in 2017. Last year, we returned almost 65% of free cash flow to our shareholders. And again, as I mentioned at the beginning, if you look at consensus free cash flow estimates for '22, we're on pace with that and have solidly said that we're going to return roughly 90% of free cash flow to shareholders. So I think overall, since the company has been formed, we've returned over 100% of free cash flow back to shareholders on average through buybacks and dividends. And that's the way we really look at the aspects of cash returns and shareholder returns.

And Lorenzo, from your comments of thinking your stock is undervalued and the fact that you're prioritizing buybacks, is it fair to assume that if you are in a robust free cash flow environment in the back half of the year, once GE has exited that a buyback is a more likely use of incremental cash than dividend growth?

Yes. And as I said, we'll always continue to evaluate when we see the benefit of maintaining a good dividend and I'll remind you, we're probably one of the few companies that did maintain the dividend through what happened in the last few years, and we think that's important of the statement. And as we have extra cash flow, we'll look at the opportunity of further buybacks.

That's great. We only have a few more minutes left. Ati, I know you want to make sure we got to services and equipment.

Yes. One quick question on the OFSE side, if I can. I mean you've taken some steps already that are improving the margin profile of the business and have talked about the opportunity set there. Can you maybe reiterate your expectation of the product lines in that segment? Do you envision anything being retained as you think about the future structure of the business or the traditional side of the business? Or is the idea you have to completely exit before you can get to that point.

So with respect to our last earnings call, we expect the market to take another step higher in 2022. And as you look at oilfield services and equipment, in particular, on the offshore, it will still remain below pre-pandemic levels for the foreseeable future. So in the subsea space and the tree count, we do expect to perform better. And you can see that by some of the expectations of our peers and partners indicating that there is an upswing even though moderate. However, we still think it's structurally challenged. So from a strategy perspective, we're going to continue to focus on the EBITDA, the returns. We've had a cost out that's been achieved. We've restructured the business, and we'll continue to explore other opportunities within the space. We think consolidation would be attractive, and that's something that we'll continue to assess with regards to actually taking some of the excess capacity out of the market. But I think our strategy is, again, run the business well and continue to evaluate on the Oilfield Equipment side.

Terrific. Well, Lorenzo, I know we're at the top of our time. We really appreciate you spending some time with us today. I wish you luck through the balance of '22. We'll talk to you on the upcoming call.

Thank you very much.

Thank you, Lorenzo.

Goodbye.