Historical Overview:
The Halliburton Company was founded by Erle Halliburton who began his oil career in 1916 working for Perkins Oil Well Cementing Company. In 1919, Erle started his Better Method Well Cementing Company. Erle Halliburton developed a method which encased steel well pipes in cement. This method was initially considered useless, but later proved to have several benefits. Encasing the well pipe in cement prevents oil from entering the water table as it is pumped up. It also reduces the chance of explosions while providing strength to the well structure. In 1920, the company was incorporated in Oklahoma and renamed Halliburton Oil Well Cementing. The company patented its products and services, which forced many companies to hire Halliburton Oil Well Cementing if they wanted to encase their well pipes (Hoovers).
Erle Halliburton died in 1957, but the company grew through numerous acquisitions throughout the 1950’s, 60’s, and 70’s. In 1962 Halliburton purchased Brown & Root, a large oil development company, and an expert in offshore platform construction. Brown & Root had also built many of the oil wells in Iraq prior to 1962, wells which are today maintained by Halliburton KBR. In 1973 there was an Arab oil embargo which resulted in huge opportunities for Halliburton due to the need for global oil exploration. Drilling costs also surged because oil, driven by technology and demand, was sought out at ever increasing depths. With plenty of demand and plenty of practice, Halliburton quickly became a leader in well drilling and stimulation (Hoovers).
In the 1990’s Halliburton began massive global expansion. In 1991 they entered Russia and in 1993 they started working in China. In 1994 the Brown and Root segment was awarded a contract for a pipeline stretching from Qatar to Pakistan. In 1995 Dick Cheney was named CEO. This occurred immediately before Brown & Root began providing services to the Department of Defense. Because oil field development involves lengthy projects, a contractor such as Halliburton must carry extensive logistics support capabilities. They must be able to provide clothing, housing, food, and medical facilities for hundreds or even thousands of employees at the site of a major project. Many times oil is found in places which are not convenient for human survival, which is why Halliburton and other similar companies became proficient at creating a long-term, sustainable work-site. The US Department of Defense recognized the ability of a civilian contractor such as Halliburton to provide efficient logistics support, and in 1995 Halliburton was employed to provide engineering and logistics support for US Army peacekeeping troops in the Balkans (Hoovers).
Business Philosophy:
One of Halliburton’s mission statements is “Give back to the community that has given to you.” One example provided in the 2003 annual report is Halliburton de Mexico, which was incorporated in 1956 as a Mexican company. Today, this company employs 1200 people, 95 percent of which are Mexicans. In 2003, this Mexican workforce was the number one contributor per capita to Mexico’s United Way. Over 70% of the workers contributed (Halliburton).
Halliburton projects in remote locations often last for decades, and they have a habit of building communities around such operations. In Bonny Island, Nigeria, they have a natural gas plant Nigeria LNG and must sustain its operations. In order to accomplish this, Halliburton invests in craft schools where they train young Nigerians in crafts and computer skills. They also build and repair roads in order to streamline operations with the positive consequence of improving living conditions for foreign civilians. In a country like Nigeria, piping of clean water is not a given, so Halliburton builds water infrastructure necessary for their plant—and share it with the community. The business model basically exports technology, building materials, and infrastructure but does not largely export labor. In other words, they build the facility then train the community to operate the facility. This model creates jobs and vastly strengthens foreign economies. Halliburton considers itself a citizen of the world—not necessarily the United States (Halliburton).
Sector and Industry:
Halliburton Co. is listed in the basic materials sector which encompasses a wide range of commodity related manufacturing or processing industries. Included in this sector are companies that manufacture construction materials, chemicals, minerals and mining companies, and steel producers. Their primary industry is Oil and Gas Equipment and Services. One of the most formidable competitors to Halliburton is Schlumberger LTD. Other competitors include Technip and Baker-Hughes INTL.
Asbestos Liability:
In 1998 with Dick Cheney as CEO, Halliburton acquired Dresser Industries. The deal was billed by Cheney as a “win-win” merger but ended up strapping the company to the rapidly growing costs of legal claims filed by people who were injured or at risk due to asbestos in products made by Dresser. Skeptics question whether Halliburton under Mr. Cheney was aggressive enough in investigating the asbestos liability of Dresser. Many also believe it was impossible to predict the staggering costs of settling these asbestos claims (Gerth). In order to protect its core assets from the large asbestos liability, Halliburton restructured into two independent subsidiaries in 2002. The company was divided into two subsidiaries: the energy services group, which is the core of Halliburton today; and the engineering and construction operations group known as KBR, primarily composed of the Brown & Root segment. By 2004, the company had settled nearly all of the 300,000 asbestos-related lawsuits by paying about $4 billion in cash and in stock (Hoover).
Government Contracts:
The company has also been the subject of intense political scrutiny since the Bush/Cheney administration took office in 2001. Many left wing pundits frequently highlight Mr. Cheney’s former role as CEO as “more than coincidence” as it relates to Halliburton winning contracts to support troops in Iraq and Afghanistan. Evidence does not support the veracity of these claims. Because of the intense political scrutiny, Halliburton has been the focus of countless investigations. The US Army, for example, had secretly awarded a no bid contract to Halliburton subsidiary KBR to rebuild oil infrastructure throughout Iraq shortly after the US-led invasion. Due to the political firestorm fanned primarily by conspiracy theorists, the Army eventually opened the contract for competitive bids, and split the contract into one for northern Iraq and one for southern Iraq. The northern Iraq contract, worth up to $800 million, was awarded to a joint venture of California based Parsons Corp. and the Australian firm Worley Group Ltd. The southern contract (also subject to bidding) was awarded to Halliburton KBR, and was worth $1.2 billion in 2004. How did Halliburton win the southern bid? It is important to remember that Brown & Root originally built most of the oil infrastructure in Iraq, and therefore who better to rebuild it? Halliburton had absorbed Brown & Root and was therefore the original manufacturer of the infrastructure to be repaired. Further strengthening Halliburton’s position was their aptitude for creating sustainable bases of operations and handling of logistics (Glain).
All profits earned in Iraq have also been targeted for scrutiny, while it remains the responsibility of a corporation to profit.
In a letter addressed to Joseph E. Schmitz, the Defense Department's inspector general, Democratic representatives Henry A. Waxman of California and John D. Dingell of Michigan, along with Connecticut Senator Joseph I. Lieberman, said they were informed by members of Schmitz's staff that an audit into Kellogg Brown & Root's Iraq operations had been referred to a criminal investigation unit of the inspector general's office. The move comes after the Defense Department's auditing agency requested that Schmitz open an investigation into evidence KBR had overcharged by an estimated $ 61 million for fuel deliveries to Iraq from Kuwait. The letter revealed the latest twist in an ongoing probe by ranking Democrats, led by Waxman, into the most lucrative single contract issued to rebuild postwar Iraq. Halliburton, of which Cheney was once chairman, was secretly awarded the no-bid contract to redevelop Iraq's battered oil sector by the Army Corp of Engineers in March; Halliburton's mandate was supposed to last only a few months, but it has since garnered the company more than $ 2 billion in new business. At issue is whether KBR violated procurement standards in hiring Altanmia Commercial Marketing Co., a Kuwaiti general trader, to deliver gasoline to energy-strapped Iraq. In a Jan. 15 letter to National Security Adviser Condoleezza Rice, Waxman said Altanmia won the KBR subcontract a day after the bidding process opened, and a week before the bidding was scheduled to close. Altanmia had no experience transporting fuel before it was awarded the contract, according to the letter, and charged 60 percent more per gallon of delivered gasoline than prevailing spot prices. From April 11 to Sept. 19, according to public documents, KBR charged the US government $1.17 per gallon of gasoline delivered from Kuwait to Iraq at a time when the average spot price was 71 cents. It charged an additional $ 1.21 per gallon in transport fees, far more than what Iraq's State Oil Marketing Organization charged for the same service. KBR also added a commission of 26 cents per gallon. In addition, the Waxman letter cited allegations of financial ties between Altanmia and a brother of Kuwait's oil minister. "My staff has received multiple allegations that Talal Fahad Al Sabah is acting as a consultant for the company or as a hidden partner by proxy," Waxman wrote.
Waxman also alleged the Army Corps of Engineers preempted the Defense Department audit of KBR. Four days after the Pentagon announced the probe, the Army Corps declared Altanmia's prices were "fair and reasonable" and waived any requirements for KBR to provide cost and pricing data from Altanmia. An Army Corps official said the waiver was necessary because Kuwaiti law prohibits fuel exporters from releasing certified pricing details -- an assertion Waxman said was refuted in a telephone interview his staff had with the former general manager of Kuwait Petroleum Co. Pentagon auditors referred the Altanmia contract to the inspector general's office in response to the Army Corps waiver, Waxman said (Glain).
KBR Spin-off:
In 2003, Halliburton announced plans to divest certain non-essential divisions and shift the company focus back to its main operating objective, to become the largest oil field developer in the world. This decision was implemented by selling of its mono pumping business, its Wellstream business, and its interests in Bredero-Shaw (A European marine contractor) (Hoovers). Under the disguise of refocusing the business toward oil drilling and production, it appears Halliburton was more than happy to distance itself from the KBR division (formally Brown & Root) and the political baggage of governmental contracts. KBR is now a separate and publicly traded entity.
" Oil-field-services giant Halliburton Co. expects a gain approaching $1 billion this quarter stemming from its separation from KBR. Earlier this month, Halliburton ended its 44-year relationship with KBR, an engineering, construction and military contracting business. And after taking back 85 million shares of Halliburton common stock in exchange for issuing 136 million shares of new KBR stock, the company was able to record a net gain of $995 million, according to a company filing. "This quarter marks the start of a new chapter in Halliburton's history, as we completed the separation of KBR," Halliburton Chief Executive Officer Dave Lesar said Thursday in a prepared statement. "We are now completely focused on the global growth opportunities in our energy services business (Ivanovich)."
Executive Summary:
Halliburton Co. has increased net sales by eighty percent from $12.572 billion in 2002 to $22.576 billion in 2006. This represents an average annual sales growth of 20 percent. Despite consistently strong annual sales performances, the company operated at a net loss in 2002, 2003, and 2004. This lengthy period of net loss is largely attributed to Halliburton’s realization of massive asbestos liabilities, as well as significant corporate restructuring.
Chart 1 Average sales growth of Halliburton about 20% per year since 2002
With the asbestos claims settled in 2004, and the restructuring completed by a complete spin off of KBR in 2006, Halliburton appears to have made a comeback in terms of profitability. Net Income for 2005 and 2006 was steady at $2.35 billion dollars per year. The profit margins finally reached positive territory in 2005 and 2006 with 11.7% and 10.4% respectively. Their five year average for profit margin is less than one percent due to the net loss sustained in 2002 through 2004. The Halliburton philosophy toward paying dividends is noteworthy. Dividends of fifty cents per share were paid in both 2003 and 2004 even though the company reported net losses in those years. There was a two for one stock split in 2004 thereby doubling the number of outstanding shares, which explains why the cash dividend was decreased to twenty-five cents on a per share basis while the company is actually paying more dividends to shareholders.
The liquidity ratios of Halliburton reflect a company which is easily able to pay off its short term obligations. The lowest current ratio in the five year analysis was 1.2 in 2002. The 2006 current ratio was 2.37, and the five year average was 1.76. Today’s current ratios indicate Halliburton has basically two dollars in assets for every dollar of liability. Subtraction of inventory value does not make the acid test results any less appealing. The five year average acid test ratio was 1.57 and the trend is upward. It is somewhat impressive that the company was able to manage the $4 billion asbestos payoff and return to profitability within two years.
Halliburton has improved its debt utilization ratios. The times interest earned ratio has rapidly improved from 5.2 in 2003 to 19.9 in 2006. While at a low of 5.2, Halliburton was maneuvering to counter unplanned outbound cash flow resulting from asbestos settlements.
Future Plans and Outlook:
In 2007 current CEO David Lesar announced plans to relocate Halliburton’s world headquarters to Dubai, UAE.
Unlike some others in the sector, Halliburton saw a drop-off in operating income in the first quarter compared with the last three months of 2006. Houston-based Baker Hughes, in contrast, reported a 14 percent increase in operating income over that time frame. Halliburton's spin-off of KBR was a distraction during the first quarter, said Bill Mann, senior analyst with the Alexandria, Va.-based Motley Fool. "I think Halliburton gets a little bit of a hall pass for this quarter," Mann said. "If they're truly wanting to focus on their drilling results, they better produce drilling results." Halliburton's performance has been hampered by a lackluster drilling market in North America, particularly in Canada, where the company has been reducing personnel and relocating equipment. "We continue to face some challenges in the North America market," Lesar said Thursday during a conference call with industry analysts. "I believe we'll deal with whatever the market gives us."Market conditions softened in North America after natural gas prices plunged last year. As a result, the utilization rate for drilling rigs in western Canada was only 54 percent during the first quarter, down from nearly 80 percent a year ago. Gas prices have since rebounded, giving Lesar confidence drilling activity in the U.S. will be stronger during the second half of the year.Revenue in each of Halliburton's international divisions grew during the first quarter compared with last year, but declined against the fourth quarter of 2006. In the Middle East, however, Halliburton's revenue grew 20 percent year-over-year and 8 percent from the fourth quarter, company officials said."We view the Middle East as an important growth area," Lesar said. To help foster relations with the national oil companies in the Middle East, Lesar has announced plans to move to Dubai, United Arab Emirates. Halliburton spokeswoman Cathy Mann said in an e-mail that Lesar is "in the process of relocating (Ivanovich)."
David Lesar explains the headquarters move as necessary to “help foster relations” in Middle Eastern areas where revenue is growing the most. In North America, growth is weak. The move was determined by the board of directors to be favorable for improving shareholders equity. It is purely a business move.
Investment Considerations:
With the ever increasing demand for energy, and the world’s habit for harnessing the energy from oil and natural gas, it seems wise to consider investing in a company who serves the production side of energy. Halliburton certainly seems like a stable investment, having weathered the storms of massive acquired liability as well as investor fallout from tenuous political situations. Still, investing in Halliburton is risky. If the Middle East were to further destabilize it could have serious consequences for Halliburton investors especially since the company is shifting the bulk of its operations to the Middle East. For many reasons it does not seem lucrative for these big oil developers to operate in the western hemisphere. The United States has not built a new refinery in decades, choosing instead to expand existing facilities. Exploration is costly because of strict environmental laws, meanwhile Hugo Chavez can drill virtually anywhere he so desires. Halliburton’s competitors also operate in the same environment, and all of these oil developing companies seem to have global allegiance rather than American allegiance. For aggressive investing, Technip looks like the better buy. The EPS for Technip is slighter higher (2.64 versus 2.23) and the P/E ratio for Technip is drastically better (25.4 versus 15.24). Technip has the smallest net income but has plenty of potential for aggressive growth.
For less aggressive investing, Schlumberger LTD (19.3%) and Baker Hughes INTL (26.8%) both have better ratios for net income as a percentage of revenue versus Halliburton at 10.4%. In the final analysis I believe the best overall investment in this industry is Schlumberger LTD (SLB). Halliburton is my second choice.
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