Future of fracking could help Baker Hughes, investors...

February 11th, 2014 

As an investor, it is important to really understand what is going on in our economy and business.

For some, I know that goes without saying. Others think that if they look at a chart and it’s a hot stock they are buying, they’re on their way to Millionaire Row.

Sorry, but it takes a lot of time to be a good long-term investor. Anyone can pick a hot stock now and then, but it is a whole different story when investing an entire portfolio for the next 10, 20 or 30 years.

Investors should understand more about fracking — or hydraulic fracturing, which is the process of injecting fluid into cracks in shale deposits to extract oil and gas — and how it is helping the United States and our economy. Fracking could become the No. 1 producer of oil and gas, which could lead to other benefits. With fracking come other needs, such as piping, tanks and pumps. The list goes on.

It has been estimated that in addition to the benefits of fracking in our economy, these other needs could generate about $1 trillion over the next 10 years or so. The jobs created would range from construction to engineering and surveying.

One company that could benefit from fracking is Baker Hughes Inc. (NYSE: BHI)

Baker Hughes is an equipment and services company for the oil and gas industry. The stock is pushing 52-week highs at just more than $58 per share. It is a rather large company with a market cap of $26 billion.

The PE over the last 12 months is high at 23.1 when compared with the industry average of 10.9, but the forward PE going out to December 2015 is more reasonable at 11.6. Price to sales over the last 12 months is attractive at 1.13 versus the industry at 1.68. Price to book could be better at 2.28 for Baker Hughes versus the industry at 1.21. Price to cash flow also favors the industry at 6.15 when compared to the company’s 9.0.

Sales rose by 4.7 percent for the company — not as good as the industry growth of 12 percent. Earnings per share declined by 17 percent while the industry experienced an increase. I looked at the income statement and noticed that interest expense and cost of revenue has increased year over year along with the company’s income tax. While I didn’t like seeing this, the company is still making some good returns.

The balance sheet is very strong for Baker Hughes. The current ratio is 2.50 — well above the industry at 2.0. Debt to equity favors the company as well at 24.46, which is half the industry average of 58.1.

The net profit margin could be better at 4.9 percent — roughly one-third the industry average of 15.2 percent. Return on equity is also low for the company at 6.3 percent when the industry is at 10.3 percent. These two lower numbers can be explained by the higher cost of sales, higher interest expense and higher taxes.

Looking out to December 2015, the EPS estimate stands at $4.99, which is a 24 percent increase from the December 2014 EPS of $4.03. Using a conservative multiple of 16.5 would yield a stock price at $82.34 for nearly a 42 percent gain come December 2015.

The PEG ratio also reflects good growth going forward and investors are getting a good deal on that growth with a PEG ratio of only 0.77.

For investors, fracking can be a very profitable place to be for the long term, and Baker Hughes is a company that should be able to ride the fracking wave going forward.

Have a question or a company you'd like me to take a look at? Email me at brent@wilseyassetmanagement.com.

Wilsey is president of Wilsey Asset Management and can be heard at 8 a.m. every Saturday on KFMB AM760. Information is provided by Reuters.