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The Real Reason General Electric Company (GE) Bought Baker Hughes

General Electric Company (NYSE:GE) on Monday confirmed suspicions that it was indeed acquiring oilfield services outfit Baker Hughes Incorporated (NYSE:BHI). The rumor first surfaced last week, and General Electric pulled the trigger on Monday, causing an immediate dip in GE stock.

General Electric GE stock

Now, General Electric will create a new $32 billion organization by combining its oil and gas operation with Baker Hughes.

GE stock has slumped since the news, though not necessarily because observers (professional and amateurs alike) are concerned it’s a misfit. In fact, most like the idea. It forms what’s been dubbed a “fullstream” oil company that brings an integrated start-to-finish solution oil/gas solution to the market.

The slump in General Electric’s stock may have as much to do with crude’s pullback or GE’s other efforts.

Still, while the consensus opinion is one of curious optimism, more than a few investors still aren’t sure exactly what General Electric has in mind for this unlikely pairing. The answer is, using its Predix platform, GE aims to revolutionize every aspect of oilfield management.

What’s Predix?

While GE was and still is an industrial icon, it has not kept up with the advent of digitalization, and hasn’t been out in front of the internet of things revolution.

The company has recently made up for lost time, though, creating and now marketing what it calls Predix.

General Electric touts Predix as “the operating system for the Industrial Internet, is powering digital industrial businesses that drive the global economy. By connecting industrial equipment, analyzing data, and delivering real-time insights, Predix-based apps are unleashing new levels of performance of both GE and non-GE assets.”

In plainer English, Prexid makes sense of a mountain of data that didn’t exist before. The platform collects and correlates information from sensors, timers, delivery drivers, factory workers, financial reports, meters and more, and packages it in a format that lets organizations actually do something constructive with the information.

It’s also a non-specific tool in and of itself. To use Predix, specific apps must be developed using Predix as the backbone. That’s why more than 2,200 developers are already working on ways to turn Predix into specific business tools.

Turning the Art of Oilfields Into a Science

The $64,000 question: Can GE turn something as unpredictable and unknowable as an oilfield into a finite, predictable asset?

Answer: If it utilizes the full potential of Predix, yes, it can.

Giving credit where it’s due, ARC Advisory Group’s Craig Resnick may have the firmest grasp on where all of this is going. He recently said:

“From GE’s fullstream oil and gas manufacturing and technology solutions spanning across subsea & drilling, rotating equipment, imaging and sensing; to the Baker Hughes portfolio in drilling & evaluation and completion & production, the combined company will be moving beyond oilfield services and into oil and gas productivity solutions, all powered by Predix.”

That “productivity,” along with decreased downtime and enhanced asset performance, are the game-changers.

Jim Cramer and Jack Mohr reiterated Resnick’s assessment, explaining:

“While the partnership is certainly an effort to combat pressures in an area where GE has struggled, we believe the true underlining motivation for the deal aligns with GE’s efforts in big data via its Predix platform, which is pioneering the digital industrial revolution (or ‘the industrial Internet of Things’).”

The end result may be one of the most efficiently run oil companies in the world. That efficiency still doesn’t outright guarantee fiscal success; the new company will still be subject to the strength or weakness in crude oil prices.

Regardless of where oil is trading, though, there’s little doubt the GE/Baker Hughes entity will be able to boast better efficiency metrics than its peers.

Bottom Line for GE Stock

As for what this means in terms of the potential improvement in value of GE stock, there are two schools of thought.

On a more micro level, General Electric has already suggested the creation and majority ownership of the new oil and gas outfit will add 4 cents worth of profit per share by 2018. By 2020, the deal should boost the bottom line by 8 cents per share.

That’s not a lot compared to the $1.49 per share General Electric is expected to earn this year. But that outlook may also be unnecessarily conservative.

Before oil prices went haywire in 2014, Baker Hughes was driving net income of more than $1 billion per year on a consistent basis. GE, for perspective, typically drives an annual bottom line of $13 billion. If General Electric can actually create $1.6 billion worth of annual cost savings by 2020 with its purchase of Baker Hughes, and if oil prices firm up even modestly in the meantime, its two-thirds stake in the new entity is going to add more profit than 8 cents per share.

On a macro level, the Baker Hughes deal will serve as something of a proving ground for its Predix platform. A decided win with the union of the two organizations will become a trophy General Electric can show off to other industrial organizations looking to get a better handle on their own operations using IoT technologies.

From this perspective, the Baker Hughes deal has massive implications for the value of GE stock.

Needless to say, plenty of scrutinizing eyes are going to be keeping close tabs on General Electric going forward, hoping to determine if Predix can indeed be a much-needed panacea.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media,

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