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After a few rocky years with major accounting issues regarding taxes and major losses from an Iraqi contract, Weatherford International (NYSE: WFT ) finally appears on a path to success. The oil services firm famously shifted headquarters to Switzerland back in 2009 to reduce taxes and ended up paying a higher effective tax rate, then ran into issues requiring a restatement of taxes. All of those issues led to a major slump in the stock as 2012 ended.
In the latest quarter, the company showed improvements in operations with a focus on margins; the effective tax rate also dropped to an incredible low rate of 20%. Finally, Weatherford is on track and could achieve numbers comparable to other top oil service firms such as Halliburton (NYSE: HAL ) and Baker Hughes (NYSE: BHI ) . The inability to operate efficiently and generate strong margins has left Weatherford trading at industry-low revenue multiples, but a new plan to focus on core operations and debt reduction should close that gap.
Improving cash flows
Weatherford has spent that last couple of years fighting tax issues, causing a lack of focus on operations. The company continued to report small profits during the period, but most quarters saw increases in debt due to capital expenditures easily exceeding operating cash flows. The progress in the last quarter was very noticeable with a $155 million sequential improvement in free cash flow. Unfortunately, the number was still a negative $39 million, but it was a significant $302 million increase over last year.
As a counterexample, Halliburton had free cash flow of nearly $500 million for the first nine months of 2013 after generating $2.6 billion in operating cash flow and spending nearly $2.1 billion on capital expenditures. On the other hand, Weatherford had negative free cash flow of $644 million during that period.
More importantly, the effective tax rate for Weatherford was only 20% for Q3 and is targeted at around 23% for the full year. This compares to the 30% reported by Halliburton and 34% by Baker Hughes during the last quarter -- a great sign that the move to Switzerland is finally paying off.
Massive debt-reduction plans
Outside of the accounting issues that caused major tax restatements and cost millions in professional fees, Weatherford has had a huge debt issue that it hopes to rectify by the end of 2015. The net debt recently reached $9 billion, a massive amount for a company with an enterprise value of only $22 billion. Even Baker Hughes, with nearly 50% larger operations based on revenue, only has net debt of $3.2 billion. The massive Halliburton, with a market cap of $46 billion, only has $5.2 billion in net debt. Also, Halliburton recently spent $4.4 billion on stock buybacks that could've eliminated the debt position, if wanted.
The plan crafted by management involves paying down up to $5 billion in debt over the next two years. The company plans to use free cash flow, cash from divestitures, and a potential 2014 IPO of the international land rigs segment. The company has already collected $370 million in October from the sale of Borets and a $150 million payment from a Latin America customer that it will combine with up to $500 million of free cash flow to pay down debt by $900 million during Q4. Another significant boost to cash flows will be the reduction of the roughly $125 million spent in quarterly interest payments. With adjusted income of only $177 million during Q3, a substantial reduction in interest payments will have an immediate impact to the bottom line.
Weatherford is placing four units for sale that account for roughly $1.2 billion in annual revenue and $150 million in EBITDA. The units are the Drilling Fluids, Wellheads, Pipelines, and Specialty Services. In general, the amounts received for these units will have a huge impact on reducing debt levels. A fire sale such as this might not generate the cash hoped for by management.
After a few years of promising quarters followed by downright depressing results and accounting issues, Weatherford finally produced a quarter that might signal that the company is back on tract. With the tax issue expected to be resolved along with the 2013 year-end audit, investors can now focus back on the stock. Unfortunately for new investors, the stock has already doubled from the yearly lows. The good news is that the stock sits considerably below 2011 highs while competitors like Halliburton appear ready to hit new multi-year levels not seen since the financial crisis. Clearly investors have missed a huge run, but the resolution of so many issues has the stock primed to benefit from international growth.
With a better tax rate, Weatherford could easily trade at more than the 1 times revenue that Baker Hughes is awarded. It might even someday approach the 1.5 times revenue valuation of Halliburton with a focus on its profitable core operations.
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