HAL - Halliburton: Buy Rating On Rising U.S. Oil Production

2023-11-17 07:29:13 ET

Summary

• US oil production reaches record levels in 3Q 2023, exceeding earlier forecasts.
• The expected increase in oilfield service companies due to favorable operating environment.
• Oil market shortages are expected to persist, leading to higher oil prices despite weak demand in the EU and the US.

Investment thesis

The Energy Information Administration reports a robust performance in U.S. oil production, reaching a record 13.13 million barrels per day in 3Q 2023, exceeding earlier forecasts. The outlook for subsequent quarters indicates a continued upward trend, with plans to increase production to 13.31 mbd by 4Q 2024. This positive trajectory suggests a favorable operating environment for oilfield service companies.

Although the U.S. rig count is below pre-COVID-19 levels, the expected average rig count is 892 in 2023 versus the old forecast of 889 and 845 in 2024 versus the old forecast of 1,000. The decline in the forecast rig count is expected to be offset by higher well productivity, reinforcing the positive outlook for oil production.

We have not changed our view of the company since our previous analysis of the financial results for the second quarter of 2023, and in this report, we present the adjustments we have made to our forecast, in particular taking into account changes in the forecast for oil prices and oil production volumes in the United States. The company reported in Q3 2023 according to our expectations, the forecast logic has been maintained. Having in mind high oil prices in the foreseeable future, Halliburton is uniquely positioned to deliver financial outperformance. Rating is BUY.

Oil market balance and Brent prices

Supply

In light of voluntary production cuts in Saudi Arabia (by 1 mbd in July-December) and Russia (by 0.5 mbd in August and by 0.3 mbd in September-December, all from the June levels), we expect oil market shortages to persist through the end of the year. That will lead to higher oil prices, despite weak demand in the EU and the US.

The hurricane season in the Gulf of Mexico lasts from June through November, with its most active phase falling in August-October. Heavy storms can push oil production in the Gulf (about 17% of total US production) down by 0.5-1 mbd for 1-2 weeks. Hurricanes can cause short-term hikes in oil prices.

Amid the easing of US sanctions, we expect Venezuela to steadily ramp up oil output by 0.25 mbd, from 0.7 mbd in September of 2023 to 1.0 mbd in 1Q 2024.

Demand

China's oil demand climbed from 15.35 mbd in August to 16.14 mbd in September (+0.8 mbd). Seasonally, oil consumption in this country grows in September relative to August (by 0.7-0.9 mbd), and in December relative to September (by 0.4-0.6 mbd). At the same time, Chinese oil demand may be weaker in October (staying at the August level) due to seasonal maintenance at Asian refineries. We expect China's oil demand to rise to 16.7 mbd in December 2023 on the back of economic development and seasonality.

Our assessment is that the EU is going through an economic downturn that's close to a recession. EU oil demand fell from 13.9 mbd In July to 13.8 mbd in August. We anticipate that the demand will decline to 13.65 mbd in September and continue to weaken through December 2023.

US oil demand dropped from 20.4 mbd in August to 19.8 mbd in September of 2023 (by 0.6 mbd). We expect US oil demand to decline on the back of a slowing economy to 19.6 mbd in October 2023 and continue to weaken until March 2024.

Based on the above reasons, we have changed our oil market balance forecast for October 2023 from a deficit to a surplus, compared to the one we described in the previous report. We expect oil to remain in short supply in November-December 2023 (due to the OPEC+ deal and voluntary oil production cuts), even as the EU economy is slowing and the US economy is expected to slow.

We anticipate the oil market will have a shortage of an average of 0.1 mbd in 1Q 2024. Our expectation is that in 1Q 2024 OPEC+ will not extend the voluntary production cuts, so OPEC output will be around 33.8 mbd (up from 32.9 mbd in September 2023). We expect oil supply to exceed demand in 2Q 2024 (on the back of rising non-OPEC production and seasonal weakening of demand in spring), providing the market with a surplus of an average of 0.8 mbd.

We have taken note of the higher-than-expected Brent price in September ($92.4/bbl versus the forecast of $89.5/bbl). We have also cut the forecast for the Brent price in October from $93.8/bbl to $88.5/bbl in connection with the change from a shortage to a surplus in the outlook for the oil market balance in October.

As such, we are lowering the forecast for the average Brent oil price in 2023 from $85.8/bbl to $84.7/bbl. We expect the price to go up from $85.9/bbl in 3Q 2023 to $92.8/bbl in 4Q 2023. We are lowering the oil price forecast from $100/bbl to $97.5/bbl for 1Q 2024, and anticipate the Brent price to slide to $85.6/bbl in 2Q 2024 amid a surplus in the market.

US oil production

We have covered this stock before, and last quarter the EIA forecast for U.S. oil production was much more conservative than what we saw in the third quarter of 2023. According to the EIA, US oil production averaged a record 13.13 mbd in 3Q 2023, surpassing the 13 mbd mark much earlier than the previous report indicated (by the end of 2024). The EIA's analysis is based on publicly available financial reports from the 40 publicly traded oil companies that produce most of their crude oil in the US. In 2Q 2023, crude oil production and capital expenditures on exploration and production rose to the highest levels over the past three years. Record US crude oil production came as Saudi Arabia and Russia extended their joint voluntary supply cuts beyond OPEC+ restrictions through the end of the year. Having passed this milestone, the US plans to keep production at comparable levels in subsequent quarters, ramping it up to 13.31 mbd by 4Q 2024.

Based on the US oil production outlook, we expect the US rig count to average 892 rigs in 2023, compared with the old forecast of 889 rigs, and 845 rigs in 2024, compared with the previous estimate of 1000 rigs. It's worth noting that the US rig count is still below the levels prior to the COVID-19 pandemic, but that doesn't stop oil production from increasing at a rapid clip. That's because the higher productivity of wells makes up for the lower active rig count in both 2023 and 2024. The decline in the total number of drilling rigs, which started in the beginning of 2023, is probably due to a cutback in horizontal drilling rigs.

Financial results

In 3Q 2023, average revenue per rig in the completion and production segment reached $3.91 mln (+14% y/y), compared with our forecast of $3.97 mln, while in the drilling and evaluation segment, it came to $2.51 mln (+0% y/y), compared with our forecast of $2.69 mln, which generally was in line with our forecasts. We expect demand for the company's services to remain strong at current oil prices, and the market for high-performance equipment and quality services to remain tight, allowing Halliburton to continue increasing average revenue per rig.

We have lowered the EBITDA forecast from $5136 mln (+28.7% y/y) to $5126 mln (+28.4% y/y) for 2023, and from $5656 mln (+10.1% y/y) to $5424 mln (+5.8% y/y) for 2024. That was driven by the reduction of the forecast for drilling rigs from 891 to 866 for 4Q 2023, and from the average of 1000 to 845 for 2024 on account of slower growth in US oil production.

The company's free cash flow is estimated to reach $2621 mln (+37% y/y) in 2023 and $2739 mln (+5% y/y) in 2024. FCF yield is set to be 7% and 8%, respectively.

We expect the company's net debt to fall from $5582 mln in 2022 to $4490 mln (-20% y/y) in 2023 and $1750 mln (-61% y/y) in 2024, assuming the company will direct all its cash toward paying off its debts. The net debt to EBITDA ratio is poised to come to 0.9? in 2023 and 0.3? in 2024, which would mean a low debt burden.

We are lowering the target price of the shares from $52.5 to $50.6 due to:

• the reduced EBITDA forecasts for 2023 and 2024;
• the shift of the FTM valuation period.

Based on the new assumptions, we are maintaining the rating at BUY.

Conclusion

We believe oil will continue to be in short supply in November and December of 2023, even as the EU economy is slowing and the US economy is expected to slow. Higher oil prices will spur demand for drilling new wells, enabling the company to continue raising prices for its services.

We estimate that the upside over the next year is 31%, which we believe to be appealing for long-term investors. One shouldn't forget that HAL's shares are strongly tied to the performance of oil prices, while its financial results are exposed to oil indirectly. We believe that whenever the broader market drops sharply, HAL's shares look like a promising bet on the recovery of the global economy and the demand for oil.

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