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Jeff Ubben Sees Lots of Upside at Halliburton

ValueAct’s manager thinks the oil services company is undervalued despite the pullback in petroleum prices.

Activist investor Jeff Ubben of ValueAct is moving aggressively on his newest target, out-of-favor Halliburton.

In the first quarter, the San Francisco-based activist hedge fund manager scooped up 2.3 million shares of Halliburton valued at roughly $76 million, one of just three new investments he made in the period. Since the end of March, he has been buying almost daily, and his stake is said to be approaching $500 million, or roughly 7 percent of his roughly $6.5 billion equities portfolio at the end of the first quarter (ValueAct manages a total of $8 billion).

This is significant. Ubben, who rarely holds more than two dozen stocks, had just 15 in his U.S. portfolio at the end of the first quarter.

“This is way, way too cheap,” Ubben says of the shares of the oil services giant, which are currently kicking around in the upper $20s, down from $35 as recently as late April.

He points out the stock is trading at just 3.5 times ebitda and 7.5 times earnings. And several Wall Street research departments, including Morgan Stanley and Standard & Poor’s — have price targets in the mid-$40s. Ubben, along with Deutsche Bank for that matter, thinks the stock is worth closer to $60. At the same time, Ubben believes the downside risk is only about $5 from its current price.

The stock has sagged for a number of reasons. For starters, it has been hurt by the recent retreat in oil prices and gas prices. It took a considerable hit recently when it announced that recent rapid expansion of oil and liquids-related activity in North America caused it to experience increased costs for guar gum, a critical agricultural commodity used as a blending additive to fluids utilized in hydraulic fracturing, or fracking. This also caused the company to lower guidance for North America margins, which were already expected to decline.

The low stock price has only enabled Ubben to keep buying the shares.

Ubben stresses Halliburton’s appeal stems more from investors undervaluing and misunderstanding the company rather than poor management. And he believes its balance sheet, with net debt of just 8 percent of capital, could easily accommodate an aggressive stock buyback, although Halliburton’s business is capital intensive.

In fact, Halliburton has put more money than any other company into infrastructure and gas and oil shale.

Bulls on the stock believe Halliburton’s U.S. business, which still accounts for the bulk of revenues, is stabilizing. Since the BP oil spill in the Gulf of Mexico several years ago, offshore rig demand is showing signs of rebounding. S&P, which is more bullish on the stock than most other firms, points out in a recent report it expects the number of rigs operating in the U.S. to rise in 2012 and 2013.

Meanwhile, Halliburton is shifting a lot of its focus overseas. Over the long haul, it figures to experience more growth in the Eastern Hemisphere, underscored by its decision to move its corporate headquarters to Dubai from Houston in 2007. S&P notes operating margins in the Eastern Hemisphere showed good improvement in the first quarter, despite rough weather in Europe.

Down the road, Ubben expects growth to be heavily driven by the market for extracting gas and oil from shale. He is looking for 10 percent secular growth, which could swell exponentially if gas prices start to surge in the next few years.

Is Ubben just talking his book? He stresses that he is very patient and willing to wait a number of years for this rebound. “I believe in what shale can do in 10 years,” he adds. And he thinks political opposition to fracking will fade over time. “The politics are falling into place,” he says.

The wild card: Growth could enjoy a spike if gas prices come back faster, leading to a surge in the rig count.

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