Q3 2020 Baker Hughes Co Earnings Call
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Good day, ladies gentlemen, and welcome to the Baker Hughes Company third quarter 2020 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 at that time.
If anyone require assistance during the conference. Please press Star then are you touched on telephone as normal.
As a reminder, this conference call is being recorded.
I would now like to introduce your host for today's conference Mr. Jud Bailey, Vice President of Investor Relations, Sir you may begin.
Thank you good morning, everyone and welcome to the Baker Hughes third quarter 2020 earnings Conference call here with me are chairman and CEO Lorenzo someone Ellie and our CFO, Brian or else. The earnings release, we issued earlier today can be found on our website at Baker Hughes Dot com.
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 website 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 GAAP to non-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 are pleased with our first quarter results as we successfully managed the company through the immediate impact both the pandemic and the industry downturn, while also accelerating a longtime strategy.
From an operational perspective, I am pleased with the continued solid execution on cost out from our RFS and or if he team as well as the commercial success and performance demonstrated by TPS and yes, we also.
We also saw continued free cash flow generation during the quarter and expect to be free cash flow positive for the year.
As we go forward, we continue to be intensely focused on improving the margin and return profile of Baker Hughes, Despite the near term macro volatility.
While at the same time executing on the long term strategy to evolve our portfolio along the energy landscape.
After significant tomorrow during the first half of the year oil markets have somewhat stabilized however.
However, there are still quite a bit of uncertainty expected over the next several quarters as demand recovery is becoming to level off and significant excess capacity remains.
The outlook for natural gas is slightly more optimistic as forward prices have improved with strong demand in Asia, and lower expected future gas production in the U.S.
On the economic front the global economy has rebounded from the severe contraction experienced in the second quarter.
However, the recovery so far has proven to be quite uneven and the risk of a second wave impacting economic demand remains relatively high.
Well, some industrial sectors have experienced the rebound in activity.
Others have remained somewhat suppressed the.
The current environment has also resulted in the acceleration of different parts of the economy, including technology adoption and the acceptance of new ways of working and living.
Importantly, one of these areas, where we have been witnessing a step change in activity and mindset is the broader energy industry. The key.
The COVID-19 pandemic has revealed the speed at which the even environment can respond to lower carbon levels.
This has accelerated the debate on how to fuel economic growth, while transitioning to a lower carbon future.
We've not only seen this acceleration in government response, the pandemic, but we're also seeing it in society at large and increasingly from our customers.
As we have recently highlighted Baker Hughes remains committed to being a leader in the energy transition and becoming a key enabler to decarbonizing oil and gas and other industries from within.
We also believe that the changes rapidly unfolding across the oil and gas landscape warrants an acceleration of this strategy.
We have developed a three pronged approach to accelerate our transition to an energy technology company.
The first of these strategic pillar is to transform the core.
Fish targets multiple work streams that are focused on improving our margin and return profile through a combination of structural cost reductions portfolio rationalization and the use of digital technology.
On the cost side, we continue to execute the rigorous cost reduction program, we outlined in April targeting $700 million in annualized savings by year end.
For the first quarter, we have achieved approximately 75% of our target and believe that we will likely achieve a higher run rate by the end of the year.
On the portfolio front, we have already divested of several businesses. This year and we will continue to evaluate favour actions specifically around businesses that likely don't have the potential to meet our return requirements.
This process could lead to further divestments alternative business structures like joint ventures or partnerships or the exit of some product lines in select regions.
In any scenario, we are taking a holistic view across Baker Hughes and will take decisive action to improve margins, while also maintaining business continuity and delivering for our customers.
The other major component of our transformed the core initiative will be the expanding use of digital technology and remote operations.
We view the expansion of remote operations in RFS and TPS as key enable us to drive better cost and margin productivity.
The second of our strategic pillars is to invest for growth.
Given the subdued upstream outlook the primary growth opportunities, we see within our existing product and service footprint out a broader industrial sector.
Specialty chemicals and non metallic materials.
On the industrial side, we see the opportunity to develop a solid industrial platform by leveraging the strongest core competencies within our TPS and digital solutions segments.
Our efforts will be focused on delivering energy efficiency and process solutions targeting adjacent non energy industrial sectors.
In addition to industrials, we remain focused on driving growth in the non metallic and chemical sectors Jude.
Due to the lower carbon footprint associated with non metallic we believe this segment provides significant opportunity for expansion.
As well as synergies with our upstream and chemicals businesses.
In chemicals, we see the opportunity we see the opportunities to grow internationally in the downstream segment and potentially into other adjacent specialty chemical markets to complement our current capability.
The first pillar of our strategy is focused on positioning for new frontiers.
As the energy landscape continues to evolve we have spent considerable time evaluating key growth areas associated with the energy transition and analyze where Baker Hughes can capitalize on these opportunities.
Overall, we see a range of options for our technology with the greatest near term potential in carbon capture hydrogen and energy storage.
Although it is still very early in the evolution of these free markets. We believe that Baker Hughes can play a key role in the future development of these areas with the technology. We have in house. In fact, we are in active conversations today with multiple stakeholders in all three of these areas primarily focused on how our compression and turbine.
Technology can play a role in future projects.
As we execute on these three strategic pillars, and our broader evolution as an energy technology company. We are committed to operating in a disciplined manner that prioritizes free cash flow returns above our cost of capital.
Paying our dividend and maintaining our investment grade rating.
Now I'll give you an update on each of our segments.
The persistent weakness in oil prices continues to create a challenging environment for oil field services.
In the international markets the decline in the first quarter activity was in line with our expectations as cobot impacted regions remain depressed and activity in the middle East and other areas continued to decline but.
For the full year, we expect international drilling and completion activity the decline closer to the high end of the 15% to 20% range that we outlined on our last earnings call.
As we look into Twentytwenty, one we expect activity to stabilize early next year and see the opportunity for recovery in some markets over the second half of the year.
However, we believe that any potential second half recovery and Twentytwenty, one will require higher oil prices and that most of the activity increases are likely to come from low cost basins.
In North America completion activity rebounded strongly during the third quarter well drill.
Our drilling activity stabilized in August and September occur.
A key driver helping to support our North American or Fest results during the quarter was a recovery in our production driven businesses, particularly in our artificial lift product line.
Looking ahead, he MP customers in North America are increasingly signaling their commitment to capital discipline and a maintenance mode for spending that will allow for minimal or modest production growth.
While this shift to maintenance mode like it implies an increase in activity from current levels. We believe that it suggests an uncertain outlook over a longer time period.
While the outlook for our fast remains challenging into Twentytwenty. One we are closely engage with our customers to help find solutions and remain committed to structurally reducing our cost base and finding ways to improve the margin profile for this business.
Although our company strategy involves pivoting the portfolio and leading the energy transition the RFS business remains core to our company as we believe that oil and gas will still play a leading role in the energy landscape for the foreseeable future.
Moving on to TPS. This.
This segment as you know is a multifaceted business with a leading position in LNG, a robust aftermarket services franchise, and an improving valves business. It.
It also has attractive growth potential in industrial and new energy applications.
TPS has remained resilient in a challenging market environment.
The most significant development for Ts in the quarter was the award for the main refrigerant compressors for full Mega trains, a cutoff petroleum's, nor field East LNG project executed by Qatar gas.
The order reinforces over two decades of trust and successful Turbomachinery collaboration between Baker Hughes, the top petroleum and Qatar gas.
We have six LNG mega trends, driven by Becky, whose technology already in operation. The NFC Award underscores the strength of our offerings for the world's most complex LNG projects.
Taking a broader view of the LNG market, our long term outlook for LNG demand growth remains intact. We.
We continue to view natural gas is a transition and destination tool for a lower carbon future supported by a few key drivers.
Fast the phasing out of coal should support natural gas demand in the power generation space.
With call still accounting for nearly 30% of global energy supply natural gas has ample opportunity to displace coal in both developed and developing markets over the coming decades.
China's recent pledged to be carbon neutral by 26, the implies continued growth and gas consumption and India is also expected to see almost a doubling in natural gas demand over the next 15 years.
Second we also believe the LNG and gas more broadly is well placed to support renewables growth. It can.
It can provide cleaner flexible reliable and competitively priced power for peak load management and grid stabilization.
Fad, we see the capacity to February juice, the carbon footprint of existing and future LNG operations for the use of new technologies.
We have been a pioneer from the early days of LNG and a clear leader in LNG development for almost 30 years, introducing new technologies to enable more efficient production and operations.
For example, TPS continues to partner with customers to reduce their carbon footprint across our installed base of over 5000 gas turbines and 8000 compresses. So.
So far in Twentytwenty, we have booked upgrade orders that will result in a reduction in excess of 160000 tons of C O two per year.
We also having productive discussions with customers regarding use of carbon capture technology and hydrogen for various projects.
Carbon capture technology can be added to liquefaction trains through upgrading existing equipment or new installations, which can meaningfully reduce carbon emissions.
[noise] for hydrogen we are seeing increased applications for hydrogen blend turbine for mechanical drive in LNG.
At Baker Hughes, we have turbines running on 100% hydrogen as well as blended hydrogen and several power generation applications across our fleet.
We believe that hydrogen plant applications will grow as LNG operators seek to reduce the carbon footprint of their projects and at the hydrogen infrastructure becomes more efficient around the world.
Importantly, as customers way, the economics of future projects with the demands for a lower carbon footprint, we have the technology portfolio in place that can help execute their plans and satisfy all stakeholders.
Next in digital solutions, while broader industry activity trends are improving we see continued weakness in the oil and gas and aerospace markets. This.
Despite these challenges our team is executing well taking decisive cost sanctions.
Our strategy for the EPS is focused on driving continued expansion across the oil and gas and industrial end markets and building on our condition monitoring and other leading technologies to deliver outcome based solutions for a range of industries.
An example of where we'd like to see our DS business. In this environment is reflected in an important contract. We won this quarter with Petrobras to deliver innovative solutions and safer operations implants across Brazil.
The free Air frame agreement combines digital solutions hardware and inch devices with our leading software offerings to provide holistic outcome based solutions to the customer.
The EPS will deliver to Petrobras a wide set of hardware technologies from our Bentley, Nevada, Nexus controls and Panama metrics product lines to enhance multiple aspects of the customer's operations for risk mitigation and performance standardization and improvements.
On the software side, we will also be deploying our new Bentley, Nevada orbit, 60 series and machinery protection and condition monitoring system for the first time in Latin America.
When combined with our system, one condition monitoring and diagnostic software. All this 60 provides customers with the ability to create proactive maintenance and fleet management program for maximum productivity and cost reduction.
Finally on oil field equipment, we continue to navigate a difficult environment and remain focused on cost out efforts and improving the margin profile of this business.
In the first quarter, we made solid progress on these initiatives executing on our cost goals related to the restructuring plan for the business.
Also during the first quarter, we reached an agreement to sell our surface pressure control flow business, which operates primarily in North America.
We are retaining the ESPC projects business, which operates in the Middle East Africa, North Sea and Asia.
This disposition is in line with our strategy to focus the portfolio on core activities.
For our offshore leverage businesses the market outlook remains challenged lower oil prices and continued macro uncertainty has led offshore operators to focus on conserving cash flow and reprioritizing their portfolio of potential projects and investments.
As a result, although tree awards are now trending closer to 150 trees for the year, we're not expecting any material growth in new awards and 2021.
We've been on shorter cycle services business, we continued to experience weakness and intervention work to to both budget and mobility constraints while.
While we believe this type of activity will improve with higher oil prices, we do not anticipate a material change in this business for the next few quarters.
A bright spot within our own portfolio remains than one metallic and flexible pipe business, which is seeing positive momentum with customers around the world are.
Our offshore flexible pipe business continues to look solid awards in Brazil.
While our non metallic business continues to provide significant opportunity for expansion in the broader energy markets.
Overall, we are executing on the framework, we laid out on our fast quota, adding school, we're on track to hit our goals of Rightsizing, our business and generating free cash flows 2020 and to achieve the $700 million in annualized cost savings by year end.
Thank you he is uniquely placed to navigate the tendering market environment. The industry is currently facing and positioning to lead the energy transition we are.
We remain focused on executing for customers and being disciplined on costs and delivering for our shareholders.
With that I will turn the call over to Brian.
Thanks, Lorenzo I will begin with the total company results and then move into the segment details orders for the quarter were $5.1 billion up 4% sequentially driven by TPS NDS, partially offset by declines in Lss and LNG.
Year over year orders were down 34% with declines in all four segments remaining performance obligation was $23 billion up 1% sequentially equipment Artemio ended at $8.3 billion up 4% sequentially and services, our PEO ended at $14.7 billion down 1% sequentially.
Our total book to Bill ratio in the quarter was one and our equipment book to Bill in the quarter was 1.1.
Revenue for the quarter was $5 billion up 7% sequentially, driven by TPS, LSC and digital solutions, partially offset by declines in Lss.
Year over year revenue was down 14% driven by declines in with us and digital solutions, partially offset by an increase in TPS.
Operating loss for the quarter was $49 million.
Adjusted operating income was $234 million, which excludes $283 million of restructuring separation and other charges.
Adjusted operating income was up 124% sequentially and down 45% year over year.
Our adjusted operating income rate for the quarter was 4.6% up 240 basis points sequentially.
We are particularly pleased with the margin improvement in the third quarter, which was largely driven by our restructuring execution. We have achieved roughly 75% of our $700 million in cost out initiatives and are on track to complete the rest during the fourth quarter based on our.
Based on our execution to date as well as additional opportunities that we have identified through this process. We feel confident that we can exceed our initial cost estimates by the end of this year.
Corporate costs were $115 million in the quarter, we expect corporate costs to decline slightly in the fourth quarter versus third quarter levels. Looking ahead to 2021, we expect our cost out efforts and lower separation costs to reduce corporate expenses.
Depreciation and amortization was $315 million in the quarter, we expect DNA to be flat sequentially in the fourth quarter net.
Net interest expense was $66 million.
Income tax expense in the quarter was $6 million included an income tax is a $42 million benefit related to the cares Act, which will lower our net cash tax payments in future periods.
GAAP loss per share was 25 cents adjusted earnings per share were four cents free cash flow in the quarter was $52 million, which includes $178 million of cash payments related to restructuring and separation activities.
For the fourth quarter, we expect free cash flow to be roughly flat to sequentially higher supported by stronger operating results continued capex discipline and modest improvement in working capital for two.
For 2021, we expect free cash flow to improve significantly versus 2020 levels, largely driven by higher operating income as well as lower restructuring and separation charges.
Lastly, as Lorenzo mentioned in the third quarter, we reached an agreement to sell our surface pressure control flow business, which operates primarily in North America within alessi.
We expect the transaction to close in the fourth quarter.
Additionally, during the quarter, we completed the sale of our specialty polymers business knowing that thesis.
These dispositions are part of our strategy to exit businesses that did not meet our return requirements and are aligned with our broader portfolio evolution objectives.
Now I will walk you through the segment results in more detail and give you our thoughts on the outlook going forwards.
In oilfield services the team delivered a strong quarter. Despite the ongoing market challenges, although fs revenue in the quarter was $2.3 billion down 4% sequentially International revenue was down 3% sequentially on North America revenue was down 7%.
Operating income in the quarter was $93 million, which was a solid increase sequentially and a 200 basis points improvement versus the prior quarter.
The improvement in margins was driven by strong execution on the cost out initiatives, we announced in April.
As we look ahead to the fourth quarter visibility in both the North American and international markets remain limited internationally activity remained soft in multiple regions, which is likely to be further impacted by typical seasonality. We expect year end product sales to be muted in the fourth quarter due to customer budget constraints based on these factors, we expect our fourth call.
Quarter International revenue to decline modestly on a sequential basis in.
In North America, we expect relatively from drilling and completion activity versus the third quarter and a modest sequential improvement in our production related businesses, partially offset by typical seasonality given to you.
Given these dynamics, we expect our north American Fs revenue to be roughly flat with third quarter levels, while we.
While we expect to experience modest volume pressure in the fourth quarter, we remain committed to executing on our cost out actions and believe that a less margin rates could be roughly flat to slightly higher in the fourth quarter.
Although we still do not have great visibility for 2021, I will give you. Some initial thoughts on how we see the market next year.
In the international market, we expect activity levels to stabilize late this year or early next year and remain relatively unchanged for the first half of 2021 based on.
Based on conversations with customers, we believe that a second half recovery in activity in select international basins is a reasonable expectation if oil prices begin to improve.
However, despite a potential second half recovery, we believe the international activity will still be down on a year over year basis for 2021.
In North America, we have limited visibility next year due to the short cycle nature of the market uncertainty in oil prices and the rapidly evolving business models of some of the largest us producers.
As more MPS commit to maintenance mode, capex levels minimal production growth and returning more cash to their shareholders. We believe the overall north American drilling and completion activity will struggle to be flat on a year over year basis in 2021 and that us oil production should decline on a year over year basis, although.
This activity outlook suggested Olympus revenue will be down modestly in 2021 on a year over year basis, we believe that our cost out actions should still translate to a modest improvement in the west margins and operating income for 2021.
Moving to oilfield equipment orders in the quarter were $432 million down 58% year over year with no major subsea tree awards in the quarter and the challenging offshore environment impacting results.
Our offshore flexible pipe business saw solid orders quarter, specifically in Brazil, continuing to build on the strong momentum we have seen from that segment over the past 18 months.
Revenue was $726 million flat year over year revenue growth in subsea production systems in Flexibles was offset by declines in subsea services.
Operating income was $19 million, a 37% improvement year over year, driven by higher volume in our subsea production systems in Flexibles businesses, along with solid cost up execution, partially offset by softness in services activity for.
For the fourth quarter, we expect revenue to be roughly flat sequentially driven by continued backlog execution in Sps and Flexibles was roughly flat revenue and further cost out actions, we expect an increase in operating income versus the third quarter.
Looking ahead to 2021, we expect the offshore markets to remain challenged as operators reassess their portfolios and project selection as well as how they will allocate capital internally moving forward we have.
We expect our fee revenue to be down on a year over year basis due to lower order intake in 2020, and a likely continuation of a soft environment next year although.
Although revenue is likely to be down in 2021. Our goal is to maintain positive operating income as decline in volume is offset by our cost out efforts.
Next I will cover Turbomachinery the team delivered another strong quarter with solid execution.
Orders in the quarter were $1.9 billion down 32% year over year equipment orders were down 39% year over year and equipment book to Bill was 1.7, we were pleased to receive the order from Qatar petroleum for the North field expansion that Lorenzo mentioned earlier.
Service orders in the quarter were down 17% year over year, mainly driven by fewer upgrades and lower transactional services orders revenue.
Revenue for the quarter was $1.5 billion up 26% versus the prior year.
Equipment revenue was up 78% as we executed on our LNG and onshore offshore production backlog services revenue was up 1% versus the prior year after year.
Operating income for TPS was $191 million up 18% year over year, driven by higher volume and strong execution on cost productivity.
Operating margin was 12.6% down 90 basis points year over year, largely driven by a higher mix of equipment revenue.
For the fourth quarter, we expect strong sequential revenue growth due to the continued execution on our LNG and onshore offshore production backlog as well as typical fourth quarter seasonality.
Based on these dynamics, we expect TPS revenue and operating income to increase on a sequential basis for the full year 2020, we now expect operating income to increase modestly on a year over year basis looking.
Looking into 2021, we are planning to generate solid year over year revenue growth driven by the conversion of our current equipment backlog and a modest increase in TPS service revenues, although a higher mix of equipment revenue may be a slight headwind for growth and margin rates next year, we still expect solid growth in operating income based on higher volume.
Finally in digital solutions orders for the quarter were $493 million down 20% year over year, we saw declines in orders across all end markets, most notably aviation oil and gas and power.
Sequentially orders were up modestly as the global economy began to recover revenue.
Revenue for the quarter was $503 million down 17% year over year due to lower volumes across most product lines. This was driven by a reduction in maintenance activity in pipeline and process solutions as well as the weaker automotive and aviation sectors, which impacted the way gate truck and tenant metrics product lines.
Sequentially revenue was up 7% as most industrial end markets begin to recover.
Operating income for the quarter was $46 million down 44% year over year, driven by lower volume.
Sequentially operating income was up 12% driven by higher volume across all product lines.
For the fourth quarter, we expect to see sequential growth in revenue and operating income driven primarily by typical seasonality and backlog execution.
Looking into 2021, we expect a modest recovery in revenue on a year over year basis, driven primarily by a rebound in industrial end markets with higher volumes and the benefit of our cost out program. We believe DS margin rates can get back to low double digits for the full year.
Overall, I am pleased with the execution in the third quarter amid a challenging economic backdrop.
As I discussed on our last earnings call. Our goal to this downturn is to remain disciplined in our capital allocation to preserve our financial strength and liquidity, we remain focused on free cash flow improving financial returns and protecting our dividend, while maintaining our investment grade rating with that I will turn the call back over to John.
Thanks, Brian operator, let's open it up for questions.
Operator, let's open it up for questions. Please.
Well, ladies and gentlemen, I'm going to ask a question you will need to press star one on your telephone we ask that you. Please limit yourself to one question and one follow up question you may download turns into Q2, which I had a question.
The pounds. Please stand by while we compile the culinary roster.
Our first question will come from James West with Evercore ISI. Please go ahead.
Hey, good morning, the reserve and Brian.
Hi, James.
It was a little to dig in a little bit further on LNG is like and level set expectations, you're clearly the.
The cycle seems to be restarting with major award in the third quarter in Qatar.
Is this the reef I mean am I right about that is this the restart of the liquefaction build out cycle or was that one off there's a large number as you know have named projects that we're going to be EPS I'd this year, but things change them over.
Over at the beginning of that after the process again.
Yeah, James as we've mentioned before I think you've got to look at time LNG on longer time basis, and we've always said, it's cyclical and obviously very pleased with the.
North field expansion project in Qatar and I think again, it's in line with our expectations with where we see LNG on the long time, and if you look out to 20 Friday again, we expect that to be a demand in place and a capacity requirement for about 650 to 700 million tons. So if you think about going for.
Good for the Nexstar free for years, you've still got between 50 million tons to 100 million tons of projects that need to be aidid, we're very well positioned for those and we stay very close to those and you know as you think about Tom LNG natural gas, we see it as a key aspect of the energy transition both from a transition envestnet.
<unk> fuel and enabling the reduction of coal usage. So again were very much in line with the continued expansion of LNG and natural gas usage.
No doubt another thanks for the update there and then Lorenzo hydrogen becoming a very big topic, a part of a lot of the rebuilding stimulus around the world. That's something you talked about back in April when we talk about more about LNG, but it seems like the topic is grown in size and could you you mentioned it on.
On the call today discussions, but could you just talk about what you're seeing in the been the background here will be maybe not seeing on hybrid and you know how much activity is really out there and kind of what's the opportunity set for bigger.
Yeah, James and as you said correctly there is a lot of interest in hydrogen and back. Congratulations also on the report you published I think where the excitement is really around where hydrogen can be used in the energy transition towards a zero emissions fuel source and we're seeing increasing activity I think it's important to note the hydrogen and has been around.
For a non factor from a Baker Hughes standpoint, we've been active in hydrogen since 1962 with our compressors and in fact, we have over 2000 compresses that are utilized in hydrogen applications today, where we play is clearly on the compression in generation side as we see hydrogen continue to evolve.
We see an opportunity to play across more of the value chain and if you think about it we've got top minds today that already can run 100% on hydrogen as well as a mix of both natural gas and hydrogen we see that increasing as we go forward also compressors that are actively use and so when you.
Look at the value chain is really an opportunity across the generation and also the movement. The storage liquefaction and also end destination of hydrogen I look at time hydrogen paralleling the story of LNG and if you look back 30 years ago, the natural gas expansion and also what we've seen in LNG.
Yes, I think what we'll see also with hydrogen and they'll play together as we go forward and we're uniquely positioned with the technology investments we've made to participate in the evolution of hydrogen like we have done with natural gas and LNG. So feel very good about the future prospects. There early days, but again, it's something we're staying close to it we've got a history of.
Proven technology in it.
Thank you. Our next question will come from Chase Mulvehill with Bank of America. Please go ahead.
Hey, good morning, everyone.
Yes, Okay I guess.
First question, just because we're talking about all of this in the restructuring initiatives that have been ongoing there some obviously pre coated.
It really I think theres kind of two components as we kind of dissect kind of EPS in restructuring that you've got the associated cost out from the total of the 700 million that you mentioned across the entire organization. So you've got a portion of that is allocated to assess and then also kind of pre cove. It you had initiatives.
No offense to drive better connectivity.
Optimize supply chain.
He is the service delivery platform that really drive down product costs. So maybe if you can just take a minute update us where you are today on these initiatives and maybe tall tool to the path towards double digit margins in all of this.
Yes look you you hit the highlights there I'm very pleased with how Maria cloudy and the team.
You know exercise their operating muscle this quarter the whole company did a great job on the restructuring we're about 75% of the way through that Oh Fs is ahead of that and you're absolutely right. There margin improvement is not just coming from what we launched in April but it's the you know it's it's the results of a lot of the work that we talked about.
In 2019 around supply chain around product cost around process optimization. So.
Really a a lot of efforts from the team and the results of of multiple work.
Work streams.
What I will say is that you know, we do anticipate having some better results from a cost out standpoint, and Thats really result chase of of all this work and finding opportunities as we execute on the restructuring in in some of these other initiatives that weve that we talked about in terms of you know.
Opportunities in the path to get our business back to double digits feel good that the units at these volume levels and what we talked about the outlook for what we're seeing in the market in 2021 that the team can certainly get there we've got more to go on the restructuring as I said there is more to come in the fourth quarter and we're confident that we're going to.
Exceed the targets that we talked to you about and we're still you know in relatively early days and some of the other process improvements around supply chain around facilities optimization process optimization.
That that we've embarked upon so there there's certainly opportunities there and and feel good about the pathway to get to double digit margins were not going to stop at a at where we are today and the pipeline keeps growing.
Okay perfect.
As a quick follow up Brian really is on free cash flow obvious.
Obviously, you've given us some god points to 2021 across the segments and obviously it looks like it's leading to implies EBITDA will be up on a year over year basis.
And you know when we think about 2021 free cash flow could you talk to the moving pieces. Obviously I think you talked about 800 million.
It had been $800 million of kind of that cash restructuring.
Severance and things, but maybe talk to you know how much of that goes away next year.
And you know working capital Capex, and just kind of the different moving pieces for free cash flow and would be happy if you want to give us a number but definitely moving pieces would be helpful.
Yeah, and I try to say it anyway I look it.
It's a bit early to continuity there specific obviously, but based on everything we're seeing in the market today and how the business is performing him give you a kind of the framework and the way I think about it I think around capex. It should really be similar to what we're seeing this year, assuming similar activity levels that we talked about in in how we're seeing the market working cap.
Those should actually be neutral and I think how that plays out is really going to depend on the RFS activity levels, and then progress payments from any new orders that come in on TTS.
And Alessi next year, but based on what I see today, I'd say neutral as a pretty good assumption around working capital and then you highlighted one of the biggest change coming in to next year is really around restructuring and separation charges.
We expect that to be materially lower.
In in 2021, so with the increase in earnings coming through and then the tailwind from restructuring and separation charges. It should support a material improvement in a in free cash flow in 2021. It looks chase I think you've seen the power of the portfolio and what we can do for free cash flow standpoint, you know.
In the in the last couple of years before we headed into this heavy restructuring and in those years, we had restructuring and merger related charges come through there. So that gives you a good gauge about the power of the free cash flow conversion of the portfolio. Okay.
Perfect.
Thank you. Our next question will come from Sean Meakim with JP Morgan. Please go ahead.
Thanks, Hey, good morning, Jason neutral.
So let me say one more time on TBS. Good results in the quarter you hear about holding the margin you pulled through a lot more throughput out of backlog that was good to see.
Orders were solid Qatar not in there yet so thats also helpful.
One of the key concerns for investors is the trajectory for TPS beyond 21. So next year you have pretty good visibility on topline gross margin benefits you get pulled in there.
Yes post Qatar large awards look limited at least in the near term and so I think there are concerns around 2022 and beyond so maybe could you just give us an updated view on the trajectory in terms of the moving parts, where you have visibility beyond next year.
Yes, Hey, so now Oh I'll talk through some of that and I will say that the first phase of Qatar isn't the orders number this quarter. So that's that's a that's a good a good first step here. So look thinking beyond 2021 does the orders that we got in backlog right now and that will book here in the fourth quarter.
We will definitely have a positive impact on 21 and 22, given the conversion cycle. So there is some visibility into that and based on what we're seeing today, Sean the orders environment next year should be should be okay. It looks it looks pretty solid.
So I'm feeling relatively positive about that and then I think the other thing that you know somebody's got to take into.
Take into account and we certainly look at as you think about 2022 and beyond is that the service revenue should continue to expand.
Given the growth in our installed base a lot of the installs that youve seen come in over the past couple of years and.
And the service agreement profile that we have so look this combo of services likely growing faster than equipment. When you get beyond 2021 is certainly a tailwind.
Or for margin rate and then the other thing that I would add Sean is we talked a lot about growth initiatives for the company.
And where we're pivoting to.
Pivoting to from a capital allocation standpoint, a lot of that is in a isn't turbo machinery and I'd, particularly highlight some of the industrial growth areas, where it's not really a lot about technology. It's about commercial models, it's about commercial resources.
Since some small investments there. So you will start to see some of that kick in a little more materially when you get to 2022 2023. So look I think overall the TPS backdrop for 2022 and beyond is constructive and obviously, we'll continue to update you as as things evolve but I.
Theres a lot of positive momentum in the business and with the cost out and the way Rod and the team have restructured things turned to run the business.
I feel I feel positive about where we're headed.
Just to add on the commitment.
It's a compliment that Sean if you think about Tom again, a question previously around LNG again, we still see about three to four projects for next year and to the point of the energy transition and also the application of our products in the industrial space, you've got the industrial gas turbines to novelty family, which has been released you've also got the valves business.
And so we are increasingly having conversations on how can people drive efficiency and lower carbon footprint across pulp and paper across metallurgy and other industry. So there's an adjacency aspect there and again it will take some time, but we feel good about the prospects of GTS.
Got it. Thank you for that I think thats helpful.
And then maybe to clarify the prior question on free cash in the 21 just to dig in a bit deeper.
By the time, but until next year, we'll be wrapping your fourth year post the initial deal between Baker and GE.
If anything the challenges the pandemic accelerated the restructuring plan and so I'm just curious why there should be any charges of materiality next year could you, maybe just clarify where.
Where and why we should still see more more charges next year that could have a drag on cash.
Yes, Sean I mean anything that would come through would not be be material anywhere near the level that we're talking about here you're right. We have accelerated a lot of the actions that that we would look.
That we were looking at into this year. The thing I would say is that as we go through this process and as you know.
You know we work on driving Oh, Fms margins and returns higher you know we have seen some areas, where there could be some potential opportunities for additional cost out and conditions and you know additional improvements anything that we would do Sean in this space would have incredibly quick paybacks and you know again.
Nowhere near the levels that we're talking about right now so so minimal into.
In terms of additional charges if at all.
Thank you. Our next question will come from Angie Sedita with Goldman Sachs. Please go ahead.
Thanks, Good morning, Hi, and hi, so thanks for all the details Brian really very helpful and nice to see the margins across the board given the cost out program. So if you could maybe you could talk about 21 margins and maybe the patent margin across your segments you touched on it briefly but additional color.
Are there and then if you could also give us an update around where you think normalized margins will do for each of these businesses get the cost out.
Yeah, Angie Thanks look as I said I am really pleased with how the all the teams have performed here you know in in executing on the restructuring in this incredibly tough environment. So look just a little bit on 21, and then we can move over to you know.
What we think on a longer term basis, given the profile of oilfield services, you know with a potential second half recovery, if oil prices improve but international is still down year over year.
In our North America relatively flat, we believe all the cost out actions that we've taken in our fast should translate to modest margin improvements in 2021. So you'll have the carryover of all this this cost out there that we've worked on similar story for oilfield equipment, while revenue will be down year to year over year given the.
Order intake and 2020.
I think the environment to be a little soft next year as well, we think we'll maintain positive operating income given the costs out you know that that we've done that should offset the volume declines.
On T.P.S. look at you know again the revenue growth.
Our next year will be driven by backlog conversion and we think services should rebound. Some given that you know maintenance can't continue to be a be pushed out. So I'd expect solid growth in operating income driven by higher volume, but that equipment mix could actually impact the margin rate Angie, but still great performance by both pieces of the business and then.
Margin rates should be getting back into the low double digits for the full year as.
As volume recovers in the broader industrial space I, I think you know aerospace and oil and gas might still lagged a little bit, but given how we position. The business think I think we are in good good shape, there and if you take a step back and look more broadly as I said earlier I feel really confident about lss.
Getting into the double digit margins.
Over the medium term.
You know there there's more cost that will come out in the fourth quarter. We've taken some portfolio actions that will certainly be accretive.
To the margins and look there's there's no stone being left unturned in terms of looking at the RFS business, and which pieces need some more work to to get to the right level of returns. So I feel good about how we're looking at that business and how we're operating.
Brookfield equipment honestly.
So it's a challenging market there are some bright spots with flexibles and non metallic but its tough for that to offset kind of the core EPS.
Fps space and I think in this market environment.
You know probably a year looking at high single digit levels I think our long term goal is lower double digits, but you know I think we're going to need to see some more volume there and then in Turbomachinery Havent changed our outlook really is in terms of you know.
Mid double digits.
To to to high high double digits in terms of what that business can do in a lot of that is going to depend on the mix of services and equipment in any given year and then overall I think you know DS should continue to be a mid teens margin business through through the cycle is.
Especially given the costs out you've done during this downturn.
And you know feel good that that as volume picks back up Youll see those high gross margins fall through to the operating income level, so pretty constructive view on margins across the portfolio in energy.
Great Great. Thank you very helpful. So.
Maybe going back to the the hydrogen and carbon capture and so forth I mean, it's really nice to see this leadership in energy transmission and maybe Lorenzo used to talk about where you see the biggest near term opportunities versus long term opportunities, whether its hydrogen into hydrogen blend or 100% hydrogen on the turbo.
Fine or compression.
And compare that to the path and opportunity set for carbon capture.
So Angie first of all am I think clearly it's going to take some time as we evolve on the energy transition and.
And again, if you look at the presence of oil and gas that's going to remain in the short term as we position ourselves I think cc U.S.A. is particularly important important as you look at the Paris agreement and reaching somebody.
Climate goals, we see an increasing discussion with our customer base of both on brownfield and Greenfield LNG projects of incorporating C.C.U.S. and in fact, we've got experience of already some LNG projects utilizing our carbon capture and sequestration. So I think near time does the opportunity there our hydrogen is going to.
The longer time as the infrastructure is built out as you look at energy transition, though and Fincantieri a lot of this is going to be predicated also on some of the government policies the technology.
The technology is very much in place today, and we've proven the technology in many cases and we've had at some time or we need to make these are from an economic justification standpoint, standalone as well and some of that is going to come through with the increasing government policies over the next few years and some of the subsidies that get put in place we're seeing a lot of activity in Europe.
You've seen the statements by China, and where they want to get too from a net zero perspective, so again, a evolving space and we're going to be playing our role and with the technology that's required.
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Thank you. Our next question will come from Bill Herbert with Simmons. Please go ahead.
Thanks, Good morning, Hey, about Brian So so getting back to cost out I'm curious is that how much more relative to the original $700 million.
Target and so these are a few questions embedded a one one how much of that is lss secondly in light of the redefined market opportunity in lower 48, it's not just that are in maintenance mode, but the industry from your client standpoint is consolidating rapidly and significantly that's not a good outcome.
For lower 48, total fs anyone and so I'm just curious as to how you guys think about that and how much more you need the cost out and then more over additional portfolio adjustments in light. The fact that you're not only a maintenance mode by your client base is shrinking.
Yes, I'd say on the on the cost outlook I'm, not not really going to provide a revised estimate at this time, but you know we did we do see upside coming through here in the fourth quarter and Ross Lamy said about two thirds of the cost outcomes.
Oilfield services and the incremental is probably about it's about that level, maybe a little bit higher from where the cost is going to come out I mean again I just want to you know again congratulate Korea cloudy and the team for exercising some pretty strong operating muscle here and and working hard on on the cost out. So that gives you a rough guide.
As to where you will see that come through and we'll update you as we as we roll through the quarter and report on earnings just how much that was.
In terms of what's going on it from a portfolio standpoint, and what's happening in the marketplace and the Renzo can jump in here as well, but I think I think if you look at some of the consolidation that happening you've got you know you're going to have larger players.
I think a lot of those players are going to look at technology to help them drive better cost better performance better return to their customers and actually that that that bodes well for for US. So you know we got good relationships with these customers and think that we can help them help them make a difference in from a portfolio.
Standpoint, well continue to look at the places where we actually can generate returns you know that meet our hurdles and and that May mean that we don't do some things are we partner in different ways with others to to do things that maybe we don't think are the right thing for us to offer as part of an integrated package, but we're being quite flexible in and buried Craig.
Maddox about it and there are committed to getting higher margins and returns, particularly in our fs.
Okay and last one from me with regard to Q1 is the seasonality that you're expecting at this point typical or atypical any bits atypical how is it so.
You know look I'd say right now everything I'm seeing a bill would say, it's going to be typical seasonality I don't see anything that will will change that.
At the moment, if we see any different indicators, we'll certainly let you guys know, but right now I'd say it seems pretty normal from a seasonality standpoint.
Thank you. Our next question will come from Scott Gruber with Citigroup. Please go ahead.
Yes, good morning, Hey, Scott.
Hey, Scott as Scott.
Well, Brian I want to circle back on your comments that working capital would be broadly neutral next year I think it's better than the expectation in the in the marketplace.
So just drilling down a little bit.
I thought you know as we look at the contract liability in TPS.
Yeah, I thought that that would unwind some and present a headwind maybe a couple of hundred million Bucks correctly correct me if I'm wrong, there and then as I think about we'll assess you know since working capital is.
Driven by changes in your current accounts from year end to year end it would seem that the recovery no assess exit to exit would present, another <unk> working capital Eglin, even if we just get back to the maintenance levels.
So is that fair and if so what are the offsets you mentioned down payments on the TPS orders, whether others that neutralized the potential headwinds from your two largest segments, yeah. So listen Scott you're right on the on the progress collections, we have built up that progress collections liability as we've increased our orders for kit.
Surely and in in Turbo machinery, but you know as we as we talked about you know specifically we.
We look to keep those projects free cash flow positive over over the life of the project. So look I don't expect this decline in the liability to be materially large cash drain in 2021 or 2022 at this point in a few things to think through look.
Look the increase that you have seen we'll draw down over the next two two and a half years as you mentioned.
You can see you clearly see the progress liability on the balance sheet, but what's harder for you to kind of untangle or partial offsets that you see on the asset side typically you know when we get an upfront payment we place orders for long lead items, we bring inventories in and build up inventory on our project.
In addition, there will be some receivables associated with that project as well. So it's not you know exactly one for one in terms of the cash flow impact that you see in the progress collections online. Another consideration as you mentioned is what the future awards are going to be like over the over the next couple of years. So look based on the.
The project cycle, where we are how each of those projects you know should performer from a free cash flow standpoint, again, I don't see that being a major drag as we go into next year, and then amount fs you're right as activity levels increase you know typically you do see a working capital drag a couple of things I would highlight.
As part of the work we've been doing to know what that's over the last couple of years to really drive.
To really drive better free cash flow performance, we've made a step function change in both the key.
Collections and order to remittance process as well as the inventory input process and feel good about the new processes that we have in place and that will be able to manage incremental volume, while continuing to improve our inventory turns as well as our day sales outstanding I mean, we've made great improve.
But since coming together in 2017, and there is more that can that can come there. So that's you know we're all incentivized on free cash flow is the largest piece of our short term incentive plan and we've got a pretty good processes in place to capitalize on that as a as volume returns. The other thing I would mention here is aware.
In particular, we're in a bit we are in the cycle and see that that's that's probably been more of a draw on working capital just given where the projects are in their execution phase and that should turn around as we as we go into next year as well.
Got it and that's really good color.
Well just as a quick follow up on TTS aftermarket.
So you had material cozy disruptions this year, but there.
But there is also you know enough.
Filming tailwind from the last LNG build out cycle, how much the TPS aftermarket recovering and 21.
What's the follow on growth potential within 22 utility there grocery potential.
Gross rate potentially would be great yeah.
Yeah.
It takes that we do see a modest increase in services revenue next year. After you know it's been declining in the low double digits. So far this year I'd say contractual interest transactional services have behaved this year roughly as we expected.
The area that the areas has been a little bit weaker had been in upgrades as well as services on pumps and valves in the midstream and downstream spaces as customers pretty aggressive on preserving cash and minimizing opex. So when I put all that into 2021 I do expect some level of recovery on the things that had been deferred from the.
This year from a transactional services and for pumps and valves. So we would expect that there could be some movement from next year into 2022.
In that space, but do expect the contractually services to to improve next year and into 2022 and beyond based on the LNG build out as you as you pointed out and then the other thing that I would I would say that could snap back relatively quickly depending on what.
Is going on the environment, our our upgrades there.
There's a lot of activity right now in a in that space, particularly around de carbonization, and and an opportunity to make a dent there. So I. So I'd say the commercial team and the engineering team are pretty busy customers aren't ready to pull the trigger on those yet given the environment that could be materially better as we go into two.
21, and 22, so again, a positive backdrop for services underpinned by the contractual services and then on the transactional side, we know what parts have to be replace me know what maintenance needs to be done. It's just a question of when.
Thank you and our final question on today's question and answer session. What comes from Blake, Ken with Wolfe Research. Please go ahead.
Yeah. Thanks, Good morning, guys. Thanks forgive me on here. So isolating question two parts two areas of the digital industrial realm it'd be great to dig into the first is on asset performance management through the B H C partnership. It appears the refiners in 10 facilities are attacking a structurally lower demand environment by accelerating ATM adoption.
Seems like you're going up against some industrial software provider is perhaps some equipment Oems. So what gives you confidence in being able to win in such a nascent edited landscape.
The second area I wanted to dig into is our additive manufacturing we've seen a ton of startup activity in this realm, it's not new technology per se, but perhaps nearing an inflection point for multi industry adoption is this mostly a cost efficiency lever for Baker and support of core segments kind of along the lines of Chase's question on supply chain or is there something you can monetize in core and diversification.
End markets. Thanks.
Yeah, Blake just them first of all on the digital transformation and you're right, we're seeing increased levels of.
Levels of activity around that really implementing digital transformation of our customer sites and then also internally ourselves within our internal processes, we're very happy with the BHP free relationship right. You'll have seen that we've developed applications that we're providing to our customers and again its a drive towards ridge.
Are you seeing on non productive time and were able to do that for advanced analytics and whats unique about see free dot AI is the artificial intelligence that it has in the ecosystem that is created which isn't just used within the oil and gas space, but if you used in multiple other industries and defense banking and see free has been.
Got it externally as a pioneer in artificial intelligence. So we're having good success in the conversations with our customers and also with the applying it internally ourselves so we see that continuing.
I'd say cobot has actually accelerated the application of digital transformation as you've also seen with our ramp remote operations that are taking place and we see that continuing as people drive for productivity on the aspect of our Threed printing and additive again this is not new.
And we see it both being an operational improvement for our customers because obviously it reduces the cycle time in which we can get them parts, we can actually drive incremental productivity within our own manufacturing are you moving away from on cost thing and metals to being able to have again afridi printing at sites.
And so it makes it much quicker and we think it's an opportunity again to become more efficient and productive as we continue to drive efficiencies both internally for ourselves, but then also for our customer. So two areas that we've discussed before and we continue to invest in as we go forward.
Okay, I think I will go to the rap and I just wanted to take a moment to thank everyone for joining us today and I'd like to leave you with some closing thoughts on where play put off at quarter results and believe they illustrate and reinforced the potential of Baker Hughes as we execute on our margin number.
Tons objective and evolve our portfolio with the energy landscape I want to.
I want to take a moment to thank our employees for their continued commitment and dedication in delivering for our customers shareholders and each other I'm extremely proud of the Baker Hughes team. Thank you and I look forward to spending time with you again soon offer.
Operator, you may close the call now.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.
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