Q3 2019 Earnings Call
Good day, ladies and gentlemen, and welcome to the Baker Hughes Company third quarter 2019 earnings call. At this time all participants are in listen only mode. Later, we will conduct a question and answer session and instructions will follow that time.
If anyone should require operator assistance during the conference. Please press Star then zero and you touched on telephone.
As a reminder, this conference call is being recorded.
I'd now like to introduce your host for today's conference Mr., Jud Bailey, Vice President Investor Relations, Sir you may begin.
Thank you Catherine good morning, everyone and welcome to the Baker Hughes Company third quarter 2019 earnings Conference call here with me or our chairman and CEO run go Similarly in our CFO , Brian Warrell.
The earnings release, we issued earlier today can be found on our web site at Baker Hughes Dotcom.
As a reminder, during the course of this conference call. We will provide forward looking statements. These statements are not guarantees of future performance and involve a number of risks and assumptions.
Please review, our SEC filings and web site for a discussion of some of the factors that could cause actual results to differ materially as you know reconciliations of operating income and other non-GAAP to GAAP measures can be found in our earnings release with that I will turn the call over to Lorenzo.
Thank you John .
Good morning, everyone and thanks for joining us.
We delivered a solid quarter with strong growth in tablet machinery, and the oilfield equipment orders and continued margin improvement in our oilfield services business.
Overall, we're very pleased Reebok continued execution as a team and we're not family on the right comp financially operationally and strategically.
Before I turn it over to Brian for more details on our financials and outlook I would like to take some time to discuss what we view as an exciting new beginning a Baker Hughes.
During the first quarter GE sold down a portion of its they cannot company, who is secondary offering and concurrent buyback taking its ownership percentage from just over 50% to death, but have a 37%.
Its most recent transaction is then have a major step in our separation from GE.
As you know GE announced their intention to exit stay cannot company over a year and a half ago and we've been working on this process since that time.
At the end of July 2019, we finalized our separation agreements, which included a number of transitional services.
These are intended to ensure continuity of operations during the separation period for IP systems and other critical infrastructure.
After you have seen in the weeks following the sell down we changed our company name stock ticker and branding.
In addition, jeez representation on our board went from five seats to one.
These are important highly visible steps, we have taken that outlined the direction of the company going forward.
Well less visible and equally important near term impact is the acceleration of our separation efforts as we worked quickly to minimize our time and transition and to be fully operational on our and systems as soon as possible.
I want to emphasize that the separation efforts are largely focused on back office functions, such as I T HR and Treasury systems.
Other supporting infrastructure.
I'm not sure an operational frontend of our business is largely unaffected by the separation.
Although a name change ownership and both structure of the most visible aspects of this new beginning for Baker Hughes.
We are also entering a new chapter as we move into the next page of our corporate development and prepare for the end if you transition we see unfolding over the next decade.
Two years after the formation of our company, we have executed on our integration and synergy targets and R&D early stages of evaluating the optimal portfolio. The Baker Hughes not only in the current environment, but into the future.
In the coming decades, we forecast natural gas to be the key transition fuel for a lower carbon future as oil demand growth slows and demand for renewable energy sources accelerate.
Well it it's clear that renewables will grow as a share of the overall energy supply renewable sources will not be able to fulfill global energy demand given currently available technology and its small footprint today.
These dynamics create the opportunity for natural gas take a more prominent role over the coming years.
Our view is that natural gas demand will grow up more than twice the pace of oil and LNG demand growth will be highest still at an annual rate of 4% to 5%.
This creates tremendous opportunity for our businesses and we will position the company to capture the high value higher technology opportunities along the gas value chain.
In this environment, our strategic goals are simple.
We will improve margins in our oilfield services and the oilfield equipment businesses.
You know Fs, we have executed over the last few years on some of the more straightforward synergy areas, such as Rightsizing, our footprint and facility consolidation to help improve margins.
Moving forward, we are increasingly focused on the next stage of margin improvement, which we expect to be driven by supply chain efficiencies increases in asset utilization and lower product costs better procurement and standardization.
And only fees, we expect margin improvements as growing volumes from backlog conversion should drive cost absorption and that allow us to capitalize on significant cost out initiatives, we have implemented in the recent years.
Second we will leverage some of our unique core competencies in TPS and digital solutions to factor expand our offerings in the industrial and chemical end markets.
We see the opportunity to grow more in the gas value chain without turbo machinery segment.
So in the downstream space with digital solution segment and grow our industrial chemicals presence across our portfolio.
As an example, we have utilized our expertise in gas haven't technology to develop and launched the Nobel T. family.
This new class a turbine builds on TPS deep domain experience in the rotating equipment space.
This product line targets, the industrial markets and lower medical applications, where we had not previously competed such as distributed power eat frac and pulp and paper.
In our digital solutions business, we have leveraged our strengths in inspection technology, then to the automotive and consumer electronic space with limited incremental investment.
Hi, Fad strategic though we will work to continuing to improve our digital offerings to help facilitate pepper safer and more reliable operations for our customers.
Through our recent joint venture with see free Dot AI.
Which we have branded the H.C. free.
In addition, we will be able to apply see freeze offering entirely to improve our own operational in execution capabilities.
By integrating our strong suite of digital offerings and capabilities oil and gas industry expertise and see freeze unique AI solutions, we will accelerate the overall digital transformation of this industry.
As we focus on these initiatives and what to complete the separation from GE. We are also fully aware there will be executing against the somewhat challenging macro backdrop.
Under the month global crude oil demand appears to be slowing due to a number of factors, most notably freight tensions which are beginning to manifest into slower growth and weaker manufacturing data and so it was the major economies around the world.
Recent Pierre My data has shown slowing momentum for bell wherever economies with the most recent data for the United States, China, and Eurozone signaling softening demand.
On the supply side, we agree with the view that OPEC may have to consider additional cuts as non OPEC non U.S. production appears poised for solid growth in 2020 as new offshore developments come online.
In the U.S. production growth is likely to decelerate it should remain resilient. Despite the expectation of E. M. P. Capex cuts next year.
When these factors together, we expect an adequately supplied market on the most economic scenarios, resulting in the range bound oil price environment, the 2020 and potentially beyond.
Despite this macro backdrop, we still feel good about the potential for revenue and margin growth across our portfolio and 2020 .
We believe the geographical and business mix in our segment should still be conducive to modest growth next year, while our long cycle business segments should produce solid revenue growth as we execute current backlog and anticipate continues from order activity.
More specifically within our own FSS segment, we are preparing for a north American market that is unlikely to see another reduction knee MP spending and 2020 .
As operators excise caftwo restraint and seek to improve their free cash flow.
Although it's still early we agree with some estimates, suggesting that lower 48 drilling and completion spending could decline in the high single digit or even low double digit range and 2020 on a year over year basis due to a combination of weak pricing and lower activity levels.
Internationally, we expect growth to moderate compared to 2019, but we still believe that drilling and completion spend and growing the mid single digit range or higher 2020 , depending on a number of macro factors.
International revenue growth for Baker Hughes has significantly outpaced market trends over the last years as we sought to recapture share and regained critical scale in select regions.
Our core focus going forward will be on improving margins. Therefore, I would expect our top line to be more representative of overall international market trends.
Overall, I'm generally pleased with the continued performance and execution of our or affecting the operational improvements they have made and some of their recent contract wins.
And the first quarter, Oh, I fast had a number of important wins in the middle east across multiple product lines, including artificial lift completions and international pressure pumping.
We also continue to see progress in our partnership with ethanol delivering strong execution as we helped to build out agnostic drilling capabilities.
In North America, we want an important artificial lift contract with a key customer in the Permian building on our strong relationships and execution capabilities in this important basin.
In our own see segment, we continue to see demand for around 300 trees and 29 team, which is roughly flat versus 2018, we also see an opportunity for additional orders in the flexible pipe market in 2019, following a subdued 28 team.
We were extremely pleased with our orders performance in the third quarter anniversary as we secured some important wins with impacts Gs four vine and she is pulled the field and with Apache in the North Sea.
Overall, we remain constructive on the opportunity for order growth in the other fee segment in 29 team.
And our TPS segment order growth remains solid compared to 2018, driven by continued strength in LNG and resilient order activity in our non LNG businesses.
Looking more closely at the LNG market. The project cadence is playing out largely as we expected.
So far this cycle 80 out of the 100 Mtpa, we outlined earlier this year has reached if I'd.
Which includes the recent half idea of venture Globals calculus, who Pos and Overtax optic too.
Today, our technology drives almost 400 million tons of LNG production capacity and in this most recent cycle. Our technology has been selected for each of the projects. They have reached the successful if I'd.
As we look to the remainder of the air and into 2020 . We believed there are several large LNG project still to come and we are well positioned to when many of them.
Although the yeah got off to a slow start for the non LNG portion of TPS I'm very pleased with the progression of non LNG equipment order intake of the last six months.
We have been successful in securing awards across a wide range of applications, such as electric crack at Dsos and pipelines, while still being selective in the less profitable markets of refining and petrochemical.
During the quarter, we were awarded to Fps, So contracts offshore, Brazil and offshore India. It's one that's a number of awards in the onshore offshore production and pipeline businesses.
Lastly, in our digital solutions segment, the broad diversified nature of our portfolio and growth in oil and gas and upper end markets has helped to partially offset weakness in the power markets.
Going forward, we generally expect these trends to continue.
On the commercial side only weeks after forming the be H.C. free joint venture. The team launched its first artificial intelligence software application be H.C. free reliability.
We are extremely excited about this partnership and the potential it brings to our industry.
That is a short summary of how we see the market today.
Overall, we believe that Baker Hughes is well positioned to navigate a potentially choppy macro backdrop.
This is enabled by our combination of long cycle businesses, and TPS and our fee.
Most stable end markets within digital solutions, and a differentiated RFS portfolio that is focused on high technology drilling and completion applications and production related offerings, such as upstream chemicals and artificial lift.
I am confident that we have the right team in place to execute our strategy and position Baker Hughes to generate strong free cash flow improved margins and drive returns.
With that let me turn the call over to Brian . Thanks, Lorenzo I'll begin with a total company results and then move into the segment details.
Orders for the quarter were $7.8 billion up 35% year over year end up 19% sequentially. This is the highest orders quarter, we've seen since the second quarter of 2015.
The year over year growth was driven by strong orders in oilfield equipment and turbo machinery, we delivered solid growth across both equipment and services with equipment orders up 89% and services orders up 1% sequentially. The increase was driven by oilfield equipment and Turbomachinery.
Remaining performance obligation was $22.2 billion up 8% sequentially equipment or PEO ended at $7.4 billion up 32% sequentially and services, our IPO ended at $14.9 billion down 1% sequentially.
Our total company book to Bill ratio in the quarter was 1.3, and our equipment book to Bill in the quarter was 1.8.
Revenue for the quarter was $5.9 billion down 2% sequentially. The sequential decrease was driven by turbo machinery and digital solutions offset by revenue growth in oilfield services and oilfield equipment.
Year over year revenue was up 4% driven by oilfield equipment, and oilfield services offset by declines and turbo machinery and digital solutions.
Operating income for the quarter was $297 million, which is up 10% sequentially and 5% year over year.
Adjusted operating income was $422 million, which excludes $125 million of restructuring separation and other charges separation charges in the quarter were $54 million.
Adjusted operating income was up 17% sequentially and up 12% year over year, our adjusted operating income rate for the quarter, 7.2% up 120 basis points sequentially and up 50 basis points year over year.
Corporate costs were $109 million in the quarter, we expect the corporate line to remain at a similar level for the fourth quarter. As we continue our separation efforts, we are investing in systems and processes that enable us to fully separate such as I T. H R and other back office infrastructure.
As we have ramped up the build out of these systems and not yet transition from GE. We are beginning to incur modest additional costs in line with the framework, we communicated last November .
Depreciation and amortization was $355 million down, 1% sequentially and up 1% year over year, we expect depreciation and amortization to remain at this level in the fourth quarter.
Tax expense for the quarter was $107 million for the fourth quarter, we estimate that our effective tax rate, excluding the impact of onetime separation and restructuring expenses should be in the mid to high thirtys.
GAAP earnings per share were 11 cents up 12 cents potentially and up seven cents year over year.
Adjusted earnings per share were 21 cents up one cents sequentially and up two cents year over year.
Free cash flow in the quarter was $161 million, which was below our expectations. The shortfall was driven primarily by collections and inventory management in no fs.
We still expect to see a free cash flow profile in the fourth quarter similar to what we generated in the fourth quarter of 2018, excluding the 300 million dollar progress payment from add not drilling we received last year.
Now I will walk you through the segment results in more detail and give you our thoughts on the outlook going forward.
In oilfield services. The team is navigating a challenging north American environment, while working to improve our execution globally.
As Lorenzo highlighted we are entering a new phase cost out in productivity initiatives and fs focus on supply chain optimization, improving asset utilization and driving down product costs.
Our goal from these various initiatives is not only to improve margins, but also improved the overall cash flow efficiency of our office business.
The RFS team executed a strong third quarter with revenue of $3.3 billion, which was up 3% sequentially.
North American revenue was $1.2 billion down 3% sequentially International revenue was $2.2 billion up 6% sequentially driven by strong product sales and growth in the Middle East Asia Pacific Europe , and Latin America, we saw strong execution in our artificial lift completion.
And and international pressure pumping product lines.
Operating income in the quarter was $274 million up 18% sequentially margins grew 110 basis points, driven primarily by continued cost out and stronger than planned product sales.
As we look ahead to the fourth quarter, we expect overall fs revenue to be slightly down sequentially. We expect North America revenues to decline due to further deterioration in drilling and completion activity in the U.S. land market.
Internationally, we expect revenue to be roughly flat as year end product sales should be offset by seasonal weakness in some eastern hemisphere market.
In addition, we do not expect product sales related to some international contracts to repeat at the same level as the third quarter.
Against this revenue scenario, we would expect margins to be roughly flat to slightly down versus the third quarter.
Looking beyond the fourth quarter and into 2020, we believe there are a number of cross currents that will impact our or fast business as Lorenzo highlighted earlier, our focus is shifting primarily to margin and free cash flow improvement for this business.
As a result, we expect our international revenue growth profile to more closely track international DNC spending trend after significantly outperforming over the last two years.
We believe mid single digit international growth is a reasonable expectation. This anticipates execution on the visible work that we have contracted but also risk adjust for a number of factors, including the potential for additional OPEC cuts and weakness in certain markets like Argentina.
In North America, we're preparing for U.S. DNC spend that could be down high single digits to low double digits similar to the third quarter, we would expect our topline to outperform market trends given our production weighted mix with almost 40% of our own fs revenue driven by upstream chemicals and artificial lift.
Under this revenue outlook, we expect modest margin improvement in 2020, aided by our cost out and productivity actions and our long term goal remains margin parity with peers.
Next on oilfield equipment.
Orders in the quarter $1 billion up 86% year over year, driven by strong growth in both equipment and service orders.
Equipment orders were up 122% year over year, driven by subsea production systems in Flexibles and services orders were up 31%.
Equipment book to Bill and LSV was 1.7 for the quarter.
Overall, we continue to believe that order activity for subsea trees in Flexibles are returning to a more normalized level.
We booked several key awards in the quarter, including 16 trees for Barra Energy's Baldor project seven trees for impacts in Australia, and six trees for Apache and the North Sea importantly, the Baldor project represents our first subsea Tree award on the Norwegian Continental shelf since 2008.
Revenue was $728 million, a 15% year over year.
This increase was primarily driven by better subsea production system volumes in subsea services activity, partially offset by lower revenues in Flexibles.
Operating profit was $14 million of 8 million year over year, driven by increased volume and Sps and subsea services.
Although operating income was higher year over year sequential margin performance and a west fee was below our expectations, primarily due to weaker results from our surface pressure control business.
Looking into the fourth quarter, we expect modest revenue growth and sequential margin improvement driven by similar mix dynamics to what we saw in the third quarter.
Following 23% orders growth in 2018, and what should be solid orders growth in 2019, we believe that alessi should see 2020 revenue growth in the high single digit range as we convert backlog into revenue.
We expect volume growth combined with our cost out actions and improving mix from Flexibles to drive solid margin improvement in fee in 2020.
Moving to Turbomachinery orders in the quarter were $2.8 billion up 79% year over year equipment orders were up over 200% year over year. The growth was driven by very strong orders and LNG and onshore offshore production TPS equipment book to Bill in the quarter was 4.9 supported by the law.
Large award for venture Globals, Calcasieu path as well as to FPSO orders.
After a slower start in 2019, we have seen none LNG equipment awards begin to normalize to quarterly levels that we saw in 2018 supported primarily by orders within our onshore offshore production and pipeline segments service orders in the quarter were down 13% year over year, mainly driven by fewer upgrades and installations.
Revenue for the quarter was $1.2 billion down 14% versus the prior year and down 15% sequentially.
PS revenues this quarter were impacted by supply chain issues with a key supplier and some other equipment delivery delays.
Operating income for Turbomachinery was $161 million up 22% year over year, driven by higher services mix operating margin was 13.5% up 390 basis points year over year end up 380 basis points sequentially.
For the fourth quarter, we expect Tcs to see modest year over year growth in both revenues and margins versus the fourth quarter of 2018, given our strong orders year to date and visibility for other awards. The rest of the year. We continue to expect strong order growth for the full year 2019, driven by LNG Awards.
Looking ahead to 2020, we expect high teens revenue growth based on our 2018 in 2019 order intake and for margins to continue to expand for orders the outlook for 2020 runs a fairly wide range, depending on the exact timing of when orders a book to between late this year and the early next year.
Finally on digital solutions orders for the quarter were $616 million down 2% year over year growth in our Bentley, Nevada, and measurement and syncing businesses was partially offset by declines and controls and pipeline in process solutions regionally. We saw strong orders growth in North America and Europe .
Revenue for the quarter was $609 million down 7% year over year growth in measurement and sensing was offset by declines and controls and pipeline in process solutions.
Operating income for the quarter was $82 million down 23% year over year, driven by lower volume and negative mix in the fourth quarter. We expect revenue digital solutions to be down mid single digits year over year and for slightly lower margins year over year as weakness in the power markets remain a drag on operations looking ahead to 22.
20, we expect revenue growth in the low single digits and modestly higher margins.
With that I'll turn the call back over to John .
Thanks with that Catherine let's open the call for questions.
Thank you if you have a question at this time. Please press. The Star then one key on you touched on telephone. If your question has been asked start you wish him of yourself from the Q. Please press the pound key we ask that you. Please limit yourself to one question and one related follow up.
And our first question comes from James last with Evercore ISI. Your line is open.
Hey, good morning, guys.
Hi, James I do.
Lorenzo curious about the TV as a business as we think about first the fourth quarter, but also in 2028 seems to be big driver of Baker going forward and how you're thinking about the the order rate clearly, we're we're probably going to get to your 100 million.
Tons from a forecasted you had for this year, but then looking into next year kind of what do you see for that.
Got James Press, so, let's maybe kick off with the LNG and also what we've been seeing this year overall for orders and we feel good about the orders for TPS and finding 19 as you mentioned 80 of the 100 million tons has already taken place and.
As you look at getting up to 100 million tons. There's plenty of projects that are underway. So we feel good about the ER positive orders in 2019, and as you look at LNG overhaul over the course of the next few years, there's going to be increasing project activity, you've got an outlook of the amount of 550 million tons by 20.
He Freddie and put that into perspective, you're going to need to have about 650 million tons of nameplate capacity in place. So actually provide that so as you look at the out years LNG activities going to continue and we feel conservatively, there's going to be more 75 to 100 million tons that's going.
Actually be taking place and you've got a number of those projects that you can see actually that have been approved by five core internationally.
That are going to be coming through so we feel good about LNG over the long time, when you look at TPS orders and that you look at 2020 , specifically as Brian mentioned in his remarks, there is an aspect of the timing of these projects. So I'd say that again.
We're going to see LNG projects, but there could be some a reduction in 2020 , but.
No more than that 10% or little bit more than that and basically we've got the other segments of TPS that continue to look favorable as sound they continue to grow as well so.
2020, again may see some drop but.
It's going to be based on project timing.
Got you, Okay, and then maybe just a follow up for me on the margin side for Tvs sounds like Brian mentioned similar to last year's margin in Fourq Hughes, that's a nice nice uptick.
But even if we look at 2020, even with the the mix shift from maybe away a bit from from LNG more on the on the non owned you saw what does that does the margin progression.
Yes, James you know look as I as I said earlier for the fourth quarter do expect TPS to see modest a year over year growth in both revenues and margins versus the fourth quarter of 2018 is as you see we have an unnatural margin ramp in the fourth quarter and what we would expect that to continue and look as you look at night.
This year. They are a few dynamics to think about that are building block for help margin rate is going to play out first we do expect growth in service revenue, which as you know is accretive to our margin will also see higher LNG equipment revenue, which really has two effects you know it's it's accrete.
The of LNG margin is accretive, but with much larger equipment revenue versus services. It will lead to a bit of a mix challenge at that macro level and we are in the early stages of executing on two LNG awards and those will ramp next year ARQ <unk>, two and B G, which tend to have their lowest margin rates at the beginning of the pro.
Projects and accrete overtime is you as you execute so that will also have a bit of an impact on margins as well and then lastly look we're evaluating our overall technology related spending next year is we're looking to find the optimal level given the competitive dynamics in this space as well is where we're.
You know moving the the portfolio over the course of the next year. So look I think if you add it all up.
You'll find that if the faster revenue growth, especially in equipment at somewhat impacts the magnitude of the upside in the increase in margins, but look I think that third quarter gives you a little bit of perspective in terms of the dynamics, where we converted less equipment backlog into revenue had higher service mix and as you know had incredibly strong margins above 13.
Percent. So look our overall goal and TPS is to continue to drive margins up in the mid to high teens over the coming years is revenues normalize.
And our service revenues continue to grow but the over all dynamics for TPS are positive for both revenue and margin accretion over the foreseeable future.
Thank you and our next question comes from Angie Sedita with Goldman Sachs. Your line is open.
Hi, Good morning, guys, Hi, Angie.
So on the service mix I think it's a little bit under appreciated as far as the quantity in your backlog enough visibility. It provides the maybe you could talk a little bit about service revenue or essentially aftermarket and I believe at 60% of your TPS revenues and 60% of your $20 billion in backlog, which gives you an nice.
Earnings visibility versus your peers that so maybe they're talking about service that revenues in general and the pace of growth over the next two to three years.
Yeah, and you're right <unk> you know service revenue is roughly about 60% of TPS revenue over time, we're pleased with how that business.
His is performing no the revenues really driven by both transactional and contractual services, where we provide services for customers equipment on an ongoing basis really effectively creating an annuity revenue stream as a as you when I've discussed before and it does make up about $13 billion of the services backup.
Slide that we have in a in TPS and yeah as I was mentioning in the other you know the question that the James ask it tends to be higher margin than the rest of the portfolio and look that's that's really about continuing to add value for customers and you know getting the compensation for ensuring that their equipment operates efficiently.
The uptime is there a and that we don't cause disruption to their equipment. So getting paid for that value is absolutely important in rod and the team are continually focused on how to how to continue to add value to customers year to date transactional and contractual surface revenues are up 6%. So solid growth there and if you look at where are you going to a week.
Expect a you know 2020 I would think that revenues will continue to grow at a steady pace really driven by the visibility that we have into customer maintenance schedules.
And the outage schedules and the growth that we've seen in equipment orders in 2018 in 2019, they will generate incremental service revenue stream some of that will come in.
You know next year from orders that we took in 16 and 17 and will continue to add to the backlog as we start to see service orders come in for equipment orders that we booked over the last couple of years. So look overall to your point I think it does create some really good visibility into the topline performance of the business and obviously that.
Translates into an tonight's earnings in the TPS that gives us confidence about the long term potential of the business. That's it look it's a great franchise, but Andy it's all about continuing to provide value to the customers and that's what we're focused on doing.
Thanks, very helpful. And then given the importance of free cash flow in this market can you talk us through Q3, we add roughly 161 million in free cash flow in Q3, I think you had 355 in Q2, they can talk a little bit about why it was light wasn't working capital and thoughts on free cash flow conversion and working capital.
Into Q4 and next year.
Yeah, you know in in general a angies I'd take a look at third quarter and and the fourth quarter very pleased with how TPS in digital solutions are tracking a year to date and for the you're aware fee is roughly in line with with where we thought it would be so pretty much down the fairway in terms of expectations.
Oh Fs is a little behind where we wanted them to be right now in terms of collections and inventory you know look their revenue was up 12% year to date, so quite a bit stronger than our peers. So you know working capital is a natural headwind, but they still havent generated as much cash from working capital as we plan given some of the price.
Process changes that we've been driving in that business for a for the last a year or so the team is working on this we actually had a new head of supply chain come in our early in the quarter and he's already revamped the purchasing and inventory processes and no fs and look we'll start to see some of.
Those results come through in the fourth quarter I would expect the working capital to normalize.
In the fourth quarter and as you know the typical seasonal seasonal cadence for no one fifth businesses the working capital build in the first half and you see a release in the second half is collections fall through on a net basis. So look our goal in the in the fourth quarter has to do better than last year, and we're working to improve and a number of price.
To seize I'm working capital specifically around the fourth quarter like I said earlier, we do expect to ramp in fourth quarter and I'd expect us to you know to do at least what we did in Fourq you 18, excluding the 300 million dollar progress payment that we had from a adnoc. So feel good about the process changes we then.
And how the teams are performing all the working capital metrics are up year over year, So definitely seeing progress there and then I'd say no in the in general Angie we were experiencing normal linear verity of a free cash flow and I don't see anything that would change our ability or.
For our capability and commitment to 90% free cash flow conversion over time.
Thank you and our next question comes from Chase Mulvehill West Bank of America. Your line is open.
Okay. Thank you good morning.
Yes, Oh.
Hey.
I guess, we'll come back to TPS real quick looks like there was maybe 200 million of revenue that it was pushed out it looks like it's got to all kind of come back in the fourth quarter.
Could you maybe just help characterize the 200 million that was pushed out at how much of that was associated with the supply chain issues and then yeah I'm, assuming the supply chain issues are resolved.
Yeah Chase. Unfortunately as was mentioned we did have some supply chain delays from a key supplier of critical equipment.
It has resulted in some delays of the project timing I want to make clear, though these delays I know relates its quality or performance. They just simply timing delays and that we're seeing a few constraints on supplier to.
Deliver those but we know the team is doing everything can that power to work for the challenges. We're confident that the team is gonna be able to manage this and well work for these challenges going forward and chase I'd say look delivery schedules in this business can move around a fair amount given customer project timing when they want to pick up equipment site readiness, those kind of things, but you know some of that.
Recent delays have been a little more abnormal in could persist as we work through these delays.
With our supplier if you take a look at the revenue decline in TTS roughly half of that decline comes from business dispositions, primarily the impact of the reset disposition as as well as a as well as ngs. So that gives you live in the color in terms of what the decline is there and and look all the revenue.
You know isn't P. thing exactly you know, where we wanted it given some of these delays you know look our please we are pleased with the margin it at over 13% or in the quarter and look it's there is some mix there, but it's also a reflection of some of the cost out programs that rod and the team had been executing.
You know over a over the course of Ah over the course of the past year end and look I I don't see any issues with the framework that we talked about from a TPS standpoint, and that you know ramp up of revenue in the fourth quarter, increasing a year over year. So feel good about that and that includes the impact of you know.
Central delays from the supplier that that learns and I've mentioned.
Okay. All right. That's helpful. Appreciate the color.
And then also hitting O us as a bit here.
It's good to hear that 2020, there's going to be a focus on margin improvement versus calendar.
Topline growth.
No. If you if you've got anything you want to share with us so cost initiatives may be framing some numbers around there or you know in particular, maybe on the margin side. If you want to just if there's anything on the targets about how much you think the international margin can improve in 2020 as you focus more on the margins.
Oh, Yes, it's you know I won't give specific numbers for each individual category, but we've got a lot of things that we're driving in a INO fs two to improve margins I'd say first you hit on one the international revenue we did when some large contract started executing on those this year. So the.
Question of those contracts will see margin improvement as we come up the learning curve.
You know a fully deployed and have all the assets and people that are out there you know engage full time, so you'll see a natural lift there.
In terms of a you know some other things that were working we've completely revamped how we do our job planning.
Our asset management deployment of people around the world, we've been able to optimize that so we'll start to see some impacts come through there we're starting to see improvements in repair and maintenance cycle times I'm working closely with some suppliers to drive a cost out and better cash efficiency as a.
As we work through cost out in a INO fs really focused on a a supply chain and reducing structural costs globally. This is the next phase beyond the the early days of synergies that we were driving and we've been working this for quite some time now so it's not like we're just waking up today and putting new programs in place. So we will.
Continue to see a cost or go down and better asset utilization and and more efficient deployment. So marina cloudy and the team are firmly focused on this and have a strong pipeline of a margin improvement projects.
Thank you and our next question comes from Scott Gruber with Citigroup. Your line is open.
Yes, good morning, Hey, Scott.
Well just staying on the Chase's question a lot of the moving pieces on the the cost side, you know S.S., but Brian can you give us some color just what is modest margin improvement in 2020 equate to in terms of Incrementals in the same for let's see where margin improvement should be a solid.
What does that mean for Incrementals next year, Yeah, you know.
I think the way to think about it is you know given the dynamics that we talked about into revenue there's still a lot of moving pieces in 2020. So it's hard to call an exact number in terms of where the margins going to be some it's going to depend on mix of business, but you know I will say that we feel very confident given the dynamics that we see today that we will see.
Margin improvement NFS really driven by the things that I just highlighted.
In a in chase and is a in Chase's question. So look I think you know moving over to Olathe, We've talked a lot about you know what Neil and the team had been driving during this during this downturn, we're starting to see the backlog get better there's a lot of benefits from volume leverage coming through but all the cost that we've taken out.
And look I feel pretty good with a high single digit range on.
Revenue and that should be you know mid single digit improvement in in operating margins.
Just a onto assess I think you guys in the past have talked about 25% or so incrementals as normal correct me if I'm wrong, but do you think he's going to eclipse that next year can we can we start with a three handle.
Yeah, I mean look again incrementals are so tough to call a on just given the mix of business, both geographically and a span of products that we have and where they are but look I think with the dynamics that we that we see today, you've seen a very strong quarter. This quarter I'm I see what the cost out there we're driving if things play out.
You know in the market like they are right now I would expect to see you know stronger incrementals come through but again, it's still early days, where you know we're in October here and there's a lot that going to happen by December It next year, but look the momentum is there with the team and you can rest assured that we'll be able to drive costs out and improve margins next year the.
Magnitude will depend on how some things in the market play out.
Thank you. Our next question comes from Dell Herbert with Simmons Your line is open.
Oh, good morning, well make money, though hold them all.
Yes, yes, yes, okay.
Well it will give us one quick one from me or who you called out 200, and we'll see a wall who would this year while year over year, what's the proposition for Kupol Quintle humbler oil.
Or hello.
Do you have now I just I think that question was a little muscle. So I'm just trying to repeat it make sure that parents correct question you are asking of outside tree count and we've said before that 2019 looks like around 300 treaties same as a 2018 is that correct.
Yeah, sorry, So my question Yeah, Yeah. Yeah. My question. We're really was more 44 is the tree count for 2020. Thank you got no and that look as we look at 2020, we continue to see a similar type of market, Saudi offshore tree counts and so looking to be around 300 trees. There's a good project.
Activity, so its stabilizing and again, we think will be I'm, having a similar type of market representation, we did in 2019.
Okay. Thank you.
Thank you and your next question comes from Sean that become with JP Morgan. Your line is open.
Thanks, Hey, guys they Sean.
So nice inbound on Oh, I see obviously some good name projects that you called out can you maybe I'll frame for us how many sub sea connect projects would you say are out there for the next 12 24 months and how would you size that opportunity set.
Relative to the more traditional procurement type awards.
Yeah, Shaun so as you know we did launch sub sea connect at the end of last year and also be up Tara family a suite of both from treaties as well as flexible as composite. So we've seen a lot of good traction with the customers and actually we're already starting to incorporate many of the uptime.
Capabilities into some of the projects that are being executed at the moment as we go for it you know, we're always going to be listening to what the customer wants and making sure that weekend standardized where possible and provide them. The most efficient solution out there is new modular deepwater technology that is.
Being requested by the customers and we've got the great capability. There. So why don't you know our commercial approach is going to remain flexible based on what the customers one and again, we think our market position, it's going to hold as we go forward and we feel good about the portfolio we've got another fee.
[noise] fair enough I appreciate that so staying with Oh, I see flexible pipe spend a bit of a drag as supposed to help the mix a 19, maybe we're not quite there yet.
That taking a bit longer than expected and just how how does your expectation for flexible pipe influence the guy and maybe you frame for 2020.
Sean I'm just maybe.
Go back and Rephrase 2019, and then a positive with the Brian with the margin. We always said that 2019 was going to be a rebuilding of the order backlog for Flexibles and we've actually seen that and it was driven by the fact that.
You know Petrobras did not play actively in the flexible side in 2018, and if you look at yet today were up 140% on at pass holders. So we feel good about what we said about rebuilding the backlog are coming through in.
2019, and then being converted vector and trying to think of you put that in perspective, Oh I see in total look we expect to see like I said, you know high single digit revenue growth, which will lead to mid single digit margins in the year and really that's driven by strong Sps revenue.
New growth you know, we fell 20% orders increase in 2018, 16% year to date into Lorenzo highlighted that S.P.S., we'll be back into that that's roughly 20% 25% of the business over overtime. So that will be a tailwind the drag would you expect to be is the.
Surface pressure control business like we highlighted.
This quarter, the North American market remains pretty challenging.
You know specifically, we're taking cost out there, but I would expect that to be a a drag on margins next year in no with event that that say incorporated into the mid single digit number that a that we talked about.
Thank you. Our next question comes from David Anderson with Barclays. Your line is open.
Hey, good morning, a question on the other day shift Hey, Lorenzo a question on the artificial lift contract that you announced today you haven't talked about this business very much research before if you could talk with the growth potential you see here you would noted that.
40% of your north them, if I heard your North American revenue is a is on the chemicals artificial lift let's just talk about the prospects for that seems like it's fairly competitive for the same time before in a flattish market how do you see the business prospects.
Yeah, Dave and again, our artificial lift and we like the ample probably we have in particular, if you look at time to focus area. It's on E.S. piece, where we've got that the strongest part of the market and we're seeing actually an increase adoption all the U.S. piece. When you look at different basins within North America, and that's where I'm you know the contract that.
We announced actually is taking place is on E.S. piece as you looked at Rod lift it continues to be a challenging market.
So no major shift really that we're seeing in the marketplace was gas lift right now so yes pays it is our focus area.
And I was just curious about the digital opportunity in artificial lift a as your Ses readout, a partnership ramps up and you enough that application reliability application just can't curious do you see opportunities here on the left sided with the majors I would assume that the majors might be more more more willing to decode the digital route on us.
Yes, I have no you're exactly right and if you looked at time of the C. Free Dot AI sweet it's really around the aspect of reliability and also production optimization. So we are working actively with some of our customers on deploying the C suite, a we introduced obviously DHC free reliability.
And we'll be working towards other solutions as well, but.
Reducing nonproductive time on the artificial lift is key and this is a tool that will allow us to do that.
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Thank you. Our next question comes from Marc Bianchi with Cowen Your line is open.
Thank you I first wanted to start on the on the cash flow, Brian you mentioned, some nice guidance for for fourth quarter comparing to last year, but as we look to 20, you've given us a lot of components for modeling 20 can you comment on what sort of conversion you would expect in 20 I know you've got the log.
Her term target of conversion, but but what should we expect here as we roll into 2020 <unk>. Yeah. Martin you know not really going to give specific guidance at this stage on 20, but if you look at the building blocks, we expect earnings to grow.
Positive for cash flow restructuring spend will go down but that will be offset somewhat by the increase separation spend that we talked about in November 2018, and we started to see coming through this quarter from a free cash flow standpoint, and look we still have a lot of work going on around work.
In capital and I would expect the overall working capital metrics to them.
In terms of Capex in dollar terms I think it'll be roughly flat 2019, but as a percent of revenue it will be lower as we expect to see outsized growth in TPS and or with the which are much less capital intensive. So look I think with those building blocks you can take up.
You on you know the things we talked about earlier in terms of how we expect 2020 to play out now and come up with a pretty constructive view on free cash flow and free cash flow conversion for 2020.
Okay. Thanks for that and then maybe on the RFS side.
Looking at the mid single digit international gross that you're talking about for 20, if I kind of keep your fourth quarter run rates flat just based on a really strong exit rate that you've got here throughout 2019, you're kind of already set up for that mid single digit growth. So so as the implication that you see things six.
Actually pretty flat from here internationally or is that perhaps some conservatism.
I'm, sorry, I get it maybe let's go back to what we said relative to our.
Focusing on fast being on margin accretion and again, we see the international market being mid single digit growth. We feel good about the contracts would have brought on and also the execution of those we're also taking into account seasonality one cues going to be down as a normal and then also somebody else.
And so on volatility with respect to does OPEC half the costs and so we feel very good about the mid single digit and that's that's what we're focused on is really mid single digit in the margin expansion continuing you know field services.
Thank you and our next question comes from car Kelly with RBC. Your line is open.
Hey, good morning.
Hi, Kurt.
Hi, Good morning, eight Lorenzo you definitely Yo Gabba my attention in the context of your commentary around natural gas growth longer term and the dynamics around what that May mean for the portfolio businesses within within Baker Hughes and I'm sure you Havent really gotten to the point of really fine tuning that dynamic but is this.
Kinda since you said you did come to a reference it what what at a high level you know what do you. What do you think Baker currently doesn't have that they may need to participate in that in that market dynamic.
Yeah, no great Great question, and I'm simply put I think we've got a great portfolio already today and we've got no plans or around major M&A. At this time, if you look at time Apple phone here, we've got Tom Hi, differentiated product companies that can take advantage of the.
Gas theme and the gas value chain and right you look at our rotating equipment business clearly with the LNG aspect on our fee. We are predominantly on the gas side and.
We've got a great capabilities there as you look at all so on the field set aside a history of or the gas perspective. So we've been long gone gas for some time and again, we're not portfolio. A we think we are going to be a natural partner for the energy transition what our customers. So I think portfolio wise we're in.
A good shape.
I appreciate that color and maybe a delving into you know the other topic. That's that's come up here quite a bit recently is on the digital dynamics of taking place and that in the transition and transformation taking place. There I just kind of curious as to what you think you know the addressable market of implementing these digital solution.
And could be.
With the within the energy space and when do you think that that kind of revenue stream can can start to have an impact on the piano.
I think it's Ali based on the digital Johnny but clearly that is twofold first of all as you looked at entirely ourselves were applying assay free dot AI capability and that will lead to improvements in productivity from a Baker Hughes perspective.
Also eckstein Annaly as we go to our customer base, it's gonna help as we provide them solutions to improve their productivity as well. So put an exact dollar number on the market size I think is premature at this stage in a significant and again I think they'll be software as a service that becomes something that I spoke about in the few.
Sure, but the analytics are being developed at the moment and there's definitely a next step of productivity that's going to be derived by the digital solutions were deploying.
Thank you. Our next question comes from Chris Hoy with Wells Fargo. Your line is open.
Good morning.
Hey, Chris.
Just curious you mentioned the prospect for OPEC cuts a few times if that was going to take place obviously middle East margin would suffer from cost absorption, but is the work you lose also be on the high end of the margin spectrum or the low end just curious if theres a read through for the kind of Decrementals you might see from that.
Yes, I'm as you look at time, and again OPEC and the decisions that al tank batteries time. Some correlation that you look at time rig count and what opex going to be deciding to do hair and we don't try again see an impact on our mid teen growth level that we have.
So with taking some of that into account and say that that's mid mid single digit growth, yes, that's correct.
So as you look at as you look at times, they got back the fish and again, we'll see what happens at lots going to be dependent on the December meeting.
Okay, and then just follow up on on Mark's question on cash flow building blocks in 2020, I'm just curious if there's an impact in terms of you know all these TBS orders.
You don't book the revenues until the project coming online, but I think you're getting some cash inflows related to the work you're doing do you have to think about a component of of a cash flow headwind in 2020 or 2021 or is that can average out based on the other moving pieces. Yeah. You know look it averages out based on the other moving pieces and you know you're you're absolutely right with some of these orders.
Coming in you do get some down payments you build up inventory, but you get progress payments due out to offset that inventory and and a you know work the cash curve. So I'd say it balances out and there are other things that we're working to to make sure.
You know we can have strong free cash flow conversion as you look at 22 money.
Thank you ladies and gentlemen, thank you for participating in today's conference. This concludes the program you may now disconnect everyone have a great Jake.
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