What You Need to Know About Baker Hughes and Halliburton Now that the Merger is Off

To the surprise of no one, the Halliburton (HAL 0.34%)-Baker Hughes (BHI) fusion is officially off, and Halliburton is paying Baker Hughes $3.5 billion in fees as a consequence. Why, then, is Baker Hughes stock seeing a dip, while Halliburton's is up?

In this segment from the Market Foolery podcast, Chris Hill, Taylor Muckerman, and Jason Moser explain what the market is likely reacting to. Also, they look at what Baker Hughes is planning to do with that nice $3.5 billion windfall, how Halliburton is positioned to recover, and how much this failed acquisition might affect M&A activity in the energy space for the remainder of this year.

A full transcript follows the video.

This podcast was recorded on May 2, 2016. 

Chris Hill: Let's start this episode, just like we did a week ago, with the Halliburton-Baker Hughes deal, which is now officially off. The $35 billion deal is off. And, as you said last week Taylor, all signs were pointing to this. I'm a little curious, though, why Halliburton shares are up about 2-3%, and Baker Hughes share are down about 2-3%, because Baker Hughes is getting the mother of all breakup gifts in the form of a $3.5 billion check!

Taylor Muckerman: Yeah, they're already planning to spend most of it.

Hill: Right! I guess my question is, is Baker Hughes seen as that challenged a business, that even though they've just gotten an enormous check, that people think, "Yeah, I'm still not interested in this company."

Muckerman: I think it might just stem from the fact that they're no longer getting the premium that Halliburton was going to pay for their shares. Maybe some investors are like, "Eh, it'll take a little longer, we thought Halliburton was just going to hand us some cash and shares." But, they're spending it on share buybacks, 1.5 billion or so, is what they said. That's a little over 7% of outstanding shares. So, the company could be getting a deal in the next week or so, if they start implementing this anytime soon, because shares have sold off. That might help shareholders in the long run with some returns there. And the other billion's going toward debt.

They haven't made any announcements like, "We're ready to grow the business in this cheap environment yet." As we've seen the run-up in energy shares, it might have taken away some of the deals, had this been called off only a month ago when oil was still below $40 a barrel. I expect them to use the other $1 billion on small tack-ons, but nothing like that has been announced yet. Maybe the market's just waiting and seeing. 

You kind of understand what's happening to Halliburton. You can strip that cash off their balance sheet and see what's happening. But Baker Hughes now has some decisions to make. Maybe people are hesitant as to what those decisions might be.

Jason Moser: Yeah, if you put it in the context of Halliburton as a stock, if you look at the shares outstanding versus what they're paying out in that $3.5 billion breakup fee, it's like $4 a share. It's not something that kills the business. We know investing is all about the future and seeing how the future may shake out. It's no secret that Halliburton is one of the strongest energy companies in the world. I don't think that's going to change. It wasn't going to change before the acquisition, and it's not going to change after. 

I think, really, the question then becomes, going forward, when do we see this recovery in energy? And like Taylor said, I think there are many more questions for Baker Hughes than there are for Halliburton. This sucks, if you're a Halliburton shareholder, on principle.

Muckerman: Yeah, they lost $3.5 billion.

Moser: I feel like they just kind of throw $3.5 billion out there as, eh. You start suffering this big number syndrome, where there's this big number, and you can't even comprehend it anymore. That's kind of where you are here, I think. It makes you think twice as an investor. You don't want to see businesses throwing away $3.5 billion like that, but it is what it is, and this is a company that can certainly withstand it.

Halliburton's been a very interesting investment. If you look at the 5-10 year charts, the stock doesn't really go anywhere, but there are points in time where you can buy this thing and make a ton of money. And, we've said it a lot over the past year -- we don't know when things are going to turn for energy, but they will. And when they do, this is probably going to be one you want to own.

Muckerman: Yeah. And it's not necessarily in a bad spot right now. Lost some cash, maybe the dividend grows a little slower. It would be nice to see them have that money to put to use in the low-price environment. But, I don't think they're any worse for wear in the long term.

Hill: Two questions before we move on. First, with respect to Baker Hughes, do you think part of what's happening with the stock is, the stock buyback is being seen as, for lack of a better word, uninspiring? We've talked about this before. Regardless of industry, there are plenty of companies that, when they announce a stock buyback, you can look at it and go, "Okay, they have no better idea for what to do with their money." It's the fallback position. And I'm wondering if at least part of what's happening with the stock today is, "Wow, really? That's the best idea you have?"

Muckerman: It kind of caught me off guard that they're buying back more stock than they are paying off debt, or earmarking for potential acquisitions or whatever the other billion they haven't announced yet is. That kind of caught me off guard a little, especially with shares having risen -- I don't know what Baker Hughes has done, but oil shares in general are up double digit percents in just the last few weeks. Losing out on what could have been some deals before this announcement. And, if it continues the way it is, they could have missed out on the trough to begin with. So, I do think it's less than inspiring.

Moser: Yeah. And, we've seen data before that talks about how poorly a lot of these businesses execute on the buyback front. The charts show you that as soon as the market starts tanking, they're battening down the hatches and going into shutdown mode, when really, that's when they need to be buying back these shares. So, it's pretty interesting. In the case of Baker Hughes, this is kind of like found money. Given the position of the energy market today, and that they're executing buybacks with this money, I think this could work out OK for them, given how depressed long-term energy stocks are.

Muckerman: Long-term, sure.

Moser: Yeah, I could see them wanting to reduce the debt side, but the debt, they can manage with no real problem. Again, this is kind of like found money. Probably not such a bad use of that at this time, given that so many companies have established such a poor record over time on the flip side of that coin.

Hill: Second question -- should we read anything into the potential for mergers and acquisitions in the energy industry for the rest of this year? Should we read anything into what happened here? Or do we just look at this and say, "Part of this was, it was the second and third largest players in the space, and that was the problem that the Justice Department had with it." And it's really the opposite, because I think, if I heard you correctly, Taylor, you hinted that Halliburton may just turn around now and start to go looking for other fish.

Muckerman: They could. I mean, they're missing some cash to do it with.

Hill: Right. (laughs) The wallet's a little lighter.

Muckerman: Maybe some smaller fish. Maybe they're a little bit more gun-shy. But, I think, they had to take a much harder look at what they currently own in order to value it for potential sales, to have this deal goes through in the first place. I think they're much more in tune with what they actually are now. So, they could, maybe, spin off a couple things, and then put some cash to use. But, yeah, I don't think this is something that the whole energy sector has to be worried about. It was the #2 and #3, in an industry where the top three or four do have a commanding market share globally, not just in the United States. I do think that this was probably a one-off.

That being said, you won't see Chevron and Exxon try to merge, because that would be something similar on a much larger scale, but similar in terms of market share. But, yeah, I don't think it's anything that you'll see a lack of energy deals because of this. Maybe just not the same competitiveness in nature. 

Reminds me of when T-Mobile got some cash, twice, a couple billion each time, once from Sprint and once from another company. And they went out and they spent a lot of it, which is why they're one of the fastest-growing, if not the fastest-growing mobile companies out right now. So, that could be something that shareholders are like, "Well, why isn't Baker Hughes throwing some of this cash around?" But, it is early still.