Last year was another challenging one for the oil-field service industry. While oil prices were on the rise for most of the year, they cratered during the fourth quarter. That forced oil companies to reduce their activity levels, which were already under pressure due to pipeline problems in North America. Those two issues weighed on Baker Hughes' (NYSE: BHGE) stock, which slumped 32% in 2018.
This year, however, has been much better. Crude prices have come roaring back, which has improved the outlook for oil-field services. That has helped fuel a more than 30% rally in Baker Hughes stock already this year. The big bounce-back likely has investors wondering if Baker Hughes has any more upside left.
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Why Baker Hughes has been on fire this year
Aside from higher oil prices, another factor fueling Baker Hughes' rally this year were its fourth-quarter results. Not only did its numbers beat expectations, but they showed clear signs of improvement heading into 2019. One of the highlights was its turbomachinery and process solutions segment, which among other things, makes equipment for liquefied natural gas (LNG) terminals. That segment booked $2.12 billion of new orders during the quarter, up 23% year over year. Furthermore, its book-to-bill ratio was 1.19, with a number over 1.0 meaning that it's booking more orders than it's fulfilling, implying future sales growth. Total orders for the quarter were $6.99 billion, up 21% year over year to the highest level in three years.
New-order intake has remained strong in 2019. Baker Hughes unveiled last month that it won a deal to supply Golden Pass LNG with turbomachinery equipment. That contract followed a positive final investment decision by ExxonMobil and Qatar Petroleum to build the $10 billion facility in Texas. Meanwhile, Venture Global LNG said it plans to double the export capacity of its two LNG projects in Louisiana. As a result, it's increasing the size of its process equipment supply agreement with Baker Hughes.
What could keep the rally going
Continued oil price gains and additional LNG project approvals could keep Baker Hughes' rally well fueled. Another potential catalyst is further improvement in its margins as the company integrates the legacy operations of Baker Hughes with GE's (NYSE: GE) oil and gas business. The company had already delivered $800 million of synergies from that deal through the end of last year, which was ahead of its target. That has Baker Hughes well on track to achieve this year's aim as it works toward hitting its goal of $1.6 billion by the end of next year. If the company can remain ahead of schedule, that will improve its profitability and provide a further boost to the stock price.
Another potential catalyst is if the recent improvement of oil prices starts fueling higher oil-field activity levels and service rates. The company currently expects activity to slow down because crude crashed at the end of 2018, which will negatively impact its results through the first half of the year. It believes, though, that revenue and margins will improve throughout 2019. That rebound could be more pronounced if oil companies start boosting their spending plans now that oil is around $60 a barrel, which is a vast improvement from the sub-$50 level at the beginning of the year.
What could knock the wind out of Baker Hughes' sails
On the other hand, if crude prices cool off, that would likely weigh on Baker Hughes' stock since it would lessen the need for oil companies to boost spending in the second half. Even if oil keeps rallying, it's possible that oil companies will remain disciplined so that they can generate more free cash flow to reward their shareholders. Either outcome would likely keep the pressure on Baker Hughes' margins.
One more potential negative catalyst is GE, which still owns 50% of Baker Hughes. The troubled industrial giant unloaded a sizable portion of its stake last year to raise cash, which put more pressure on shares because it sold as volatility returned to the oil market. GE has made it clear that it plans to eventually exit its position. Those future sales could weigh on Baker Hughes' stock, especially if GE prices a secondary offering at a discount to entice buyers.
Verdict: Baker Hughes isn't a buy just yet
Higher oil prices and new LNG-related orders have helped fuel Baker Hughes' stock this year. Those tailwinds could continue propelling it in the coming months, especially if oil companies boost their budgets and Baker Hughes remains ahead of its synergy plan.
However, if oil cools off, or GE starts selling again, Baker Hughes' stock could tumble. That's a risk that investors can't ignore, especially in light of the company's red-hot run-up this year. It's why I wouldn't buy Baker Hughes' stock right now, and likely won't consider it until GE details its exit plan.
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