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GE-Baker Hughes: Some call the deal unprecedented; others see a 'competitive nuisance'

Baker Hughes CEO Martin Craighead on Monday offered CNBC an explanation for why his company's stock sank that morning when the oilfield services company announced it would merge with General Electric's oil and gas business: The deal is complicated.

He may have been referring to the unique ownership structure, but the combination is also complicated because it creates a new type of oilfield services firm that defies easy comparisons. The new GE-controlled Baker Hughes would be the world's second-largest oilfield services company, with revenue projected at $34 billion in 2020.

GE Oil & Gas is primarily known as an equipment manufacturer, while Baker Hughes specializes in services and products like horizontal drilling and hydraulic fracturing, which is used to free oil and gas from shale rock by pummeling it with water, minerals and chemicals.

"The combination of GE Oil & Gas with Baker Hughes I think is increasingly blurring the lines between the oilfield equipment manufacture process and the services element," said Byron Pope, managing director of oil service research at investment bank Tudor Pickering Holt.

The marriage of the two will create what executives billed as the first-ever "fullstream" services company — meaning it will cater to all of the industry's three "streams": upstream exploration and production, midstream transportation, and downstream refining and marketing.

But the unprecedented nature of its business mix has raised concerns among some analysts about how the companies will be integrated — especially since that is where most of the shareholder value is supposed to lie. Shares of Baker Hughes fell almost 3 percent Tuesday, after their more than 6 percent drop Monday, suggesting investors remain skeptical.

A 'molecule to megawatt' company

At the most basic level, Baker Hughes and GE Oil & Gas have a number of complementary products and services. By combining them, they aim to differentiate themselves from and compete with rivals like Schlumberger and Halliburton.

The companies say they believe the deal will add 4 cents a share to GE earnings in 2018 and receive $1.6 billion in financial benefit by 2020, mostly through cutting costs.

The new entity can also tap into GE's adjacent businesses, which include aviation, big data analytics and power generation, in order to augment oil and gas services. That makes it a "molecule to megawatt" company, executives said.

GE could, hypothetically, turn to its engines and turbines business to build power infrastructure as customers develop new, promising shale prospects in Oklahoma, or they move into the fringe areas of North Dakota's Bakken formation, Craighead said in a conference call Monday.

"I think that this structure is quite a bit different than what we've seen so far in that, with the Baker-GE combination, you essentially have an entity that does everything in the life cycle of the energy industry from finding the oil, bringing it on to production, and then also creating the equipment that can generate electricity," Stephens analyst Matt Marietta told CNBC's "Closing Bell" on Monday.

Others, however, are less convinced that the deal is so transformative.

GE and Baker Hughes executives cast themselves as top-three players in a number of service categories, but Piper Jaffray analyst Bill Herbert said he considers them a distant third in many of those businesses, behind Halliburton and Schlumberger.

Herbert said that GE is heavily exposed to offshore drilling — an area has been hit especially hard by the downturn in oil prices that started in 2014 — and that its combination with Baker Hughes will present mostly just a "competitive nuisance" to Schlumberger and Halliburton when it comes to bidding for big deep-water and international projects, he told CNBC.

"It's not a parting-of-the-Red-Sea transaction," he said. "It's a marriage of two considerable entities in oilfield capital equipment and oilfield services, respectively. They're not redefining the business model."

Bringing big data to the oilfield

The two companies initially came together to discuss how Baker Hughes could use GE's Predix big data technology to boost its efficiency in the oil patch.

GE has bet big on big data in recent years, wagering that it can increase profits by monitoring the industrial equipment it sells, running the data through Predix, and selling its customers follow-on services to improve their machinery's performance on the factory floor — and now, in oil fields.

The marriage of big data and new energy technology could be a game changer. Sensors capable of gathering real-time information have proliferated throughout the oil patch, but McKinsey & Co. researchers have found that less than 1 percent of the information gathered from about 30,000 separate data points they studied reached decision-makers.

Martin Craighead, president and chief executive officer of Baker Hughes.
Aaron M. Sprecher | Bloomberg | Getty Images
Martin Craighead, president and chief executive officer of Baker Hughes.

Tudor's Pope said predictive analytics are already used in oilfield services, but GE and Baker Hughes stand to expand the use of big data in offshore drilling and within the wellbore, in particular. GE's Predix can, for example, help Baker Hughes determine when a piece of equipment is likely to fail, based on how long it's been in the field.

GE and Baker Hughes are also seeking to expand big data adoption as a protracted oil price downturn enters a third year, creating an incentive among their customers to squeeze every last drop of productivity out of wells, Pope noted.

Global investment bank Jefferies said GE analytics may raise the bar for the industry, though the firm added that "this is the sort of evolution we already like to think we expect of leading service companies."

On that point, Piper Jaffray's Herbert said Schlumberger is already ahead of the curve in adopting big data.

Little up front for shareholders?

Lastly, the company aims to cut costs by finding redundant jobs, equipment and operations between the two companies. That can include laying off workers whose responsibilities overlap, and consolidating office space.

The companies say their projected performance is based on a conservative estimate that oil prices will return to $60 a barrel by 2019, but said the deal makes sense even if crude remains depressed.

Cutting costs by finding redundant parts of the two businesses will be crucial in Herbert's view because he believes the ownership structure — in which GE will control the new entity and pay a one-time dividend of $17.50 a share to Baker Hughes investors — gives shareholders little up-front premium. Successful integration will be important for shareholders, Herbett said.


"If integration is to yield benefits and thus if it is to be successful in developing revenue synergies, we believe that the coordination required to make forms of integration work is its own skill set and one that is difficult to develop," Jefferies said in a note.

In response, GE CEO Jeffrey Immelt told CNBC thathis company's acquisition of French multinational Alstom's power business shows it can deliver on its projections.

"The day we announced the Alstom acquisition, we talked about $1.2 billion of synergies. The day we closed it we talked about $3 billion, so I think in some ways our track record speaks for itself," he told CNBC's "Squawk on the Street" on Monday.