Tap The Brakes On Halliburton

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Halliburton (HAL) delivered stellar Q2 results. It practically had to. The company is a stalwart in the shale fracturing space which is white hot right now. However, it could be time to tap the brakes on the stock.

Results From North America Were Gaudy

The North America rig count doubled Y/Y and shale plays were more than willing to feast on higher oil prices driven by the OPEC supply cut. Halliburton practically pioneered shale fracturing. The renewed drilling activity in the oil patch was in the company’s wheel house.

Results from North America were gaudy, up 24% sequentially. Halliburton receives 56% of total revenue from the region; out-sized performance in North America drove total revenue growth into the double-digits. Halliburton sold out of its pressure pumping equipment and benefited from pricing power in its well construction product lines. International revenue rose 7%. The seasonal rebound in drilling activity in the North Sea and Russia was expected; however, I was surprised by the growth in Latin America which I expected to be dragged down by the weak economies of Brazil and Venezuela.

Are Shale Customers Tapping The Brakes?

Management expects North America to outperform next quarter and for international markets to be flat. Given the company’s heavy reliance on North America management’s outlook could still equate to double-digit revenue growth. However, management indicated there were signs that spending in the oil patch could be waning. First of all, Halliburton experienced a decline in average sand pump per well. This could portend that rising sand prices have prompted operators to optimize science in the completion of wells at the expense of sand; it could also mean operators are cutting back on sand usage to avoid an inventory build up in case drilling activity declines.

Secondly, management intimated the rig count could flatten and North American shale plays could tap the brakes on additional E&P:

Today, rig count growth is showing signs of plateauing and customers are tapping the brakes. This demonstrates that individual companies are making rational decision in the best interest of their shareholders. This tapping of the brakes is happening all over the place in North America. I can tell you the market will respond, it will rebalance and these companies will stay alive, survive and thrive because that’s what they do.

With the Dow (DIA) over 22,000 stocks appear to trade based on sentiment. By cutting oil output OPEC has spurred oil prices and the share prices of energy-related names. However, increased oil output from shale oil plays has complicated OPEC’s efforts to support prices. OPEC supply cuts and shale output to fill excess supply cannot go on in perpetuity. If the rig count has plateaued then it could behoove investors to exit energy names before their earnings are impacted early next year.

HAL reached a 52-week low earlier this week and the stock is off 6% since Q2 earnings were released. If investors fear North America E&P or oil prices have peaked then HAL could fall further.

EBITDA Growth Not Enough

Halliburton’s EBITDA rose 35% sequentially, outstripping revenue growth. Its debt/EBITDA is now at 4.7x, higher than the 4.0x Moody’s wants the company to achieve this year. The company needs to maintain EBITDA while continuing to cut its debt load. However, cash of $2.1 billion is down from the $10.1 billion it had on hand at Q4 2015. A strong Q2 might be enough to keep Moody’s at bay for now. If its revenue and earnings decline due to slowing E&P then investors could question whether HAL has enough cash to survive another industry downturn.

Conclusion

Halliburton reported strong Q2 results, but North America E&P might have plateaued. Tap the brakes on HAL before the stock falls further.

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