Rationale for the Baker Hughes and Halliburton merger



Falling oil prices can be a profound catalyst for merger activity

Generally speaking, mergers happen in the oil patch when prices fall and some competitors become vulnerable. In the Baker Hughes and Halliburton merger, however, both parties are strong players, and the deal is relatively complementary. Halliburton (HAL) will benefit from acquiring some technology from Baker Hughes (BHI), especially in the artificial lift area. (Think of the “nodding donkey” rigs, which are symbolic of oil drilling.) BHI’s technology allows drillers to extract more oil and gas from aging wells.

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The deal is mainly about synergies

The HAL and BHI deal will eventually create about $2 billion in synergies annually, primarily by increasing scale and efficiency in the Eastern Hemisphere. The companies expect these synergies to come primarily from operational improvements, especially North American margin improvement, personnel reorganization, real estate, corporate costs, R&D (or research and development) optimization, and other administrative and organizational efficiencies.

The deal should be accretive by the end of the first year

Halliburton anticipates that the transaction will be accretive to cash flow by the end of the first year after closing and accretive to earnings per share by the end of the second year. HAL expects that the combined company to maintain its investment rating. Actually, that statement speaks to the strength of the synergies. Halliburton paid a 41% premium to BHI shareholders and the deal is still accretive. The price represented 8.1x 2014 consensus EBITDA (or earnings before interest, tax, depreciation, and amortization). At the time, HAL was trading at roughly 6.2x 2014 expected EBITDA.

Other merger arbitrage resources

Other important merger spreads include the deal between Hospira (HSP) and Pfizer (PFE). For a primer on risk arbitrage investing, read Merger arbitrage must-knows: A key guide for investors.

Investors who are interested in trading in the energy sector should look at the Energy Select SPDR ETF (XLE).


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