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Baker Hughes to benefit if DOJ kills Halliburton takeover, analysts say

The U.S. government's move to block the merger of two of the top threeoil-field services providers leaves all of the downside with buyer and the upside —including a $3.5 billion breakup fee — with target , credit and equityanalysts said April 7.

The Department of Justice sued April 6 in a Delaware federalcourt to block the merger, saying the deal "would combine two of the threelargest providers of oilfield services in the world, it would eliminatesubstantial head-to-head competition, and it would likely lead to higher pricesand less innovation in this critically important industry."

"I have seen a lot of problematic mergers in mytime. But I have never seen one that poses so many antitrust problems inso many markets," Assistant Attorney General for the Antitrust DivisionBill Baer said at an April 6 news conference in Washington, D.C.

Ninety percent of Halliburton's revenues come from upstreamservices also sold by Baker Hughes, Baer said. "The antitrust problemshere encompass most of the major steps needed to explore formations, to drilloil and gas wells, and to complete those wells. These products and servicesinclude directional drilling, drill bits, fluids, cementing, sensors, safetyvalves and other 'tools' that are essential to energy exploration andproduction."

"They cannot strike a deal that enhances shareholdervalue at the expense of competition," Baer told reporters.

Whatever is going to happen will happen soon, FBR & Co.analyst Thomas Curran said April 7, with the merger agreement expiring at theend of the month. "[Halliburton] opts to fight; history suggests legalbattle could last three to four months," Curran wrote after Halliburtonand Baker Hughes announcedjointly that they would fight the complaint.

"Halliburton proposed to the DOJ a divestiture packageworth billions of dollars that will facilitate the entry of new competition inmarkets in which products and services are being divested," the twocompanies said. "Both companies strongly believe that the proposeddivestiture package, which was significantly enhanced, is more than sufficientto address the DOJ's specific competitive concerns."

Either way, Baker Hughes' shares will deliver a quickdouble-digit-percentage return in the next three to four months, Curran said. "Westill like [Baker Hughes'] risk/reward here: Should the deal fail, it willbenefit from the $3.5B breakup fee, with the ability to fully implementrestructuring initiatives that have been constrained by the merger agreement …and a spreading perception that it is back in play; should the deal succeed,the stock will deliver a 40% return, all else constant, within three to fourmonths," he said.

"Any 'Hail Mary' solution still likely relies onGE Oil & Gas.Based on the trail of evidence to date, we presume the 'prospective buyer' that[Halliburton] has had 'lengthy discussions' with is GE," Curran said. "Wehave long held that, should the deal succeed, it will be because GE agrees tobuy most, if not all, of the assets; we believe the DOJ's complaint reinforcesthis view."

There was little good news April 6 for Halliburton. Whilethe credit rating agency Standard & Poor's Ratings Services said it expectsthe merger to eventually succeed and maintained both firms' investment-graderatings, S&P Global Market Intelligence equity analyst Stewart Glickmansaid it is time to sell Halliburton.

"If the deal is thwarted, [Halliburton] owes [BakerHughes] a $3.5 billion break-up fee, which, if realized, could boost[Halliburton's] net debt-to-capital ratio to the high 20% range from current17%. We see little reason for optimism on upstream spending in either '16 or '17,especially in North America, which is [Halliburton's] dominant region,"Glickman said.

Analysts at Tudor Pickering Holt & Co. questioned theDOJ's anti-monopoly logic but told their clients April 7 to hold off onsplitting the baby: "[Halliburton] and [Baker Hughes] are two of the bestoilfield service franchises on the planet, and we're buyers of both stocks, irrespectiveof whether they have a combined or independent futures during the next up-cycle"in oil and natural gas prices.

Standard & Poor'sRatings Services and S&P Global Market Intelligence are owned by McGrawHill Financial Inc.