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Smart Sand Inc (NASDAQ:SND)
Q3 2021 Earnings Call
Nov 10, 2021, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day and thank you for standing by. Welcome to the Third Quarter 2021 Smart Sand, Incorporated Earnings Conference Call. [Operator Instructions]

And now, I would now like to hand the conference over to your first speaker today Josh Jayne, Director of Finance. Thank you. Please go ahead.

Josh Jayne -- Director of Finance, Assistant Treasurer

Good morning and thank you for joining us for Smart Sand's third quarter 2021 earnings call. On the call today, we have Chuck Young, Founder and Chief Executive Officer; Lee Beckelman, Chief Financial Officer; and John Young, Chief Operating Officer. Before we begin, I would like to remind all participants that our comments made today will include forward-looking statements, which are subject to certain risks and uncertainties that could cause actual results or events to materially differ from those anticipated. For a complete discussion of such risks and uncertainties, please refer to the company's press release and our documents on file with the SEC.

Smart Sand disclaims any intention or obligation to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, November 10, 2021. Additionally, we may refer to the non-GAAP financial measures of contribution margin, EBITDA, adjusted EBITDA and free cash flow during this call. We believe that these measures when used in combination with our GAAP results provide us and our investors with useful information to better understand our business. Please refer to our most recent press release or our public filings for a reconciliations of contribution margin to gross profit, EBITDA and adjusted EBITDA to net income and free cash flow to cash flow provided by operating activities.

I would now like to turn the call over to our CEO, Chuck Young.

Charles E. Young -- Chief Executive Officer

Thanks, Josh and good morning. We enjoyed another good quarter of volume out of both Utica and Oakdale. Third quarter volumes of 790,000 tons are up 156% from the third quarter 2020 levels, and up 3% from last quarter. At our current run rate, we expect 2021 sales volumes will be a new record for tons sold by Smart Sand. And given the current outlook for commodity prices and spending by our customers, we believe 2022 volumes will exceed this year's levels. Underinvestment over the last couple of years both in the U.S. and abroad has negatively impacted the supply for oil and natural gas,

But with demand surging back to pre-pandemic levels, commodity prices now see 2019 levels and we could be in the early stages of a multi-year up cycle of energy capital spending. We continue to expect E&Ps to spend within their cash flows but as a result of higher commodity prices, we expect spending to increase in 2022. As we end 2021 and move into 2022, we're continuing to look for opportunities to lower our cost structure and increase our asset utilization. As to pricing, we expect it to improve going forward because Northern White Sand supply constraints and growing demand.

We believe the industry needs further consolidation and we continue to pursue opportunities to expand our business. But we will not risk our balance sheet and we will only acquire assets that broaden our access to key operating bases through new logistics sources to expand the markets and customer base that we serve. During the third quarter, we announced a new three-year agreement to supply sand to EQT, which demonstrates our continued commitment to provide long-term sustainable sand supply and logistics services to our customers. We have been working on building out the terminal, and we remain on track to have it operational by the end of this year. The new terminal is exciting for us not only because it will expand our presence in the Appalachian Basin, but it will also provide ESG benefits to our customers in the region by reducing trucking mileage and associated carbon emissions related to sand delivery.

Our terminal in Van Hook, North Dakota, which we acquired in the spring of 2018, has been a great success for Smart Sand and has helped us to substantially increase our sales volume into this key Northern White Sand market. Similarly, we believe our investment in the new Waynesburg, Pennsylvania, terminal will be a key driver to help drive incremental sales for Smart Sand into the Appalachian Basin. We continue to believe that shipping sand on a bulk basis by rail to terminals that are well positioned to serve long-term drilling activity within an operating basin is the right long-term supply solution for sourcing frac sand in a cost-efficient and environmentally responsible manner.

While we are optimistic about the outlook for frac sand, we're also committed to diversifying our business away from the cyclical nature of oil and gas. In the third quarter, we announced the hiring of Rick Shearer to lead our industrial products effort. Rick has held multiple executive leadership positions, most recently with the Emerge Energy Services as CEO from 2012 to 2020. Before that, he was the President and COO of U.S. Silica and Founder of the Industrial Minerals Association. Rick's experience and knowledge will be incredibly valuable as we diversify our business. He is currently in the process of building a team and we expect contributions from this business to begin in 2022.

Our balance sheet remains in great shape. Today, we have $35 million in cash and approximately $50 million in liquidity. Even though we have a strong balance sheet, we will remain disciplined with respect to capital spending and focus on maximizing capital. We remain committed to the last-mile marker with our SmartSystems including our SmartPath transloader, which we believe is unlike anything in the industry. During the third quarter, we had another successful deployment of SmartPath and we look forward to announcing more deployments in the coming months.

Using our SmartSystems, we estimated the number of trucks needed to deliver sand to the wellsite will be reduced by more than 30% versus our competitors' offerings. By taking trucks off the road, accidents are reduced, carbon emissions are reduced, and noise is reduced. SmartSystems are also uniquely designed to reduce dust. By reducing accidents, carbon emission, noise, and dust we are keeping people safer and striving to meet the ESG goals of Smart Sand and our customers, while providing a reliable, efficient last-mile solution for the industry. We're excited about our future for a number of reasons.

Our balance sheet remains in great shape and we have a significant net cash position. High commodity prices and strong demand could lead to a multiyear upcycle in the E&P spending. We are well-positioned to take advantage of any increased market activity with our available capacity, ample liquidity and strong balance sheet. Having operated SmartPath successfully for three quarters, we look forward to expanding our Last Mile market share. We will be diversifying our business beginning in 2022 with other avenues to reduce the volatility of our cash flow. As always, we'll continue to keep an eye on the future and we'll always keep our employees and shareholders' interests in mind in everything we do.

And with that, I'll turn the call over to our CFO, Lee Beckelman.

Lee E. Beckelman -- Chief Financial Officer

Thanks, Chuck. We are encouraged by the pickup in activity we have seen thus far in 2021. As Chuck indicated, third quarter 2021 volumes were slightly higher than second quarter levels. We continue to expand our customer base during the third quarter and believe a more diverse customer base will strengthen our business going forward. We are also taking steps to diversify our business into industrial sands products, which is expected to reduce the volatility of our business going forward. We remain committed to low leverage levels, a prudent capital structure, generating positive free cash flow for the year and maintaining adequate liquidity levels.

Now, we'll go through some of the highlights for the third quarter compared to our second quarter 2021 results. Starting with sales volume, we sold 790,000 tons in the third quarter 2021, a slight increase over the second quarter 2021 sales volumes of 767,000. We have sold approximately 2.3 million tons for the first nine months of 2021 and are currently on a track to achieve the highest sales volumes in company history. Total revenues for the third quarter 2021 were $34.5 million compared to $29.6 million in the second quarter 2021. Sand revenues were $2.5 million higher sequentially, which helped offset a slight decline in logistics revenue.

We recorded $2.7 million of shortfalls in the third quarter compared to no shortfalls in the second quarter. Our cost of sales for the quarter were $36.5 million compared to $32 million last quarter. Production costs were slightly higher sequentially due primarily to higher utility costs driven by increased natural gas prices. We also had increased logistics costs due to a higher mix of in-basin sales in the third quarter. Total operating expenses were $6.7 million compared to $26.3 million last quarter.

The decrease from the second quarter is primarily driven by the $19.6 million recorded as a non-cash bad debt expense in the prior period, which is the difference between the $54.6 million accounts receivable balance that was subject to the company's litigation with U.S. Well Services and the $35 million cash received in settlement of that litigation. For the third quarter of 2021, the company had a net loss of $7.3 million or a negative $0.17 per basic and diluted share. This compares to a net loss of $23.7 million or a negative $0.65 per basic and diluted share for the second quarter of 2021.

The lower net loss sequentially is primarily due to the previously mentioned $19.6 million recorded as a non-cash bad debt expense in the prior period. For the third quarter 2021, contribution margin was $4.1 million, and we had negative adjusted EBITDA of $1 million compared to second quarter contribution margin of $3.5 million and negative adjusted EBITDA of $21.5 million. For the third quarter 2021, we had negative $900,000 in free cash flow as we generated $1.1 million in operating cash flows while spending $1.9 million on capital investments. Year-to-date, we had $30.6 million in free cash flow, generating $37.5 million in operating cash flows while spending $7 million on capital investments.

The majority of our capital investments year-to-date have been on new SmartSystems units. During the quarter, we didn't use our revolver and still had no outstanding borrowings other than $1.2 million in letters of credit. Our current unused availability under the revolver is $15 million. We paid down $1.7 million against our notes payables and equipment financings in the quarter and have paid down approximately $5.1 million year-to-date. We expect to pay down approximately $1.7 million in the fourth quarter as well. We ended the third quarter with approximately $37 million in cash, and our current cash balance is approximately $35 million.

Between cash and our availability on our facilities, we currently have approximately $50 million in available liquidity. We do not expect to have any borrowings on our ABL for the remainder of the year, other than letters of credit. In terms of guidance for the fourth quarter, we expect sales volumes to be basically flat with third quarter levels assuming no major weather issues. While commodity prices have strengthened throughout the year and October volumes were strong, we anticipate holidays and weather will have an impact on activity levels as they do every year in the fourth quarter. However, indications from customers combined with a strong commodity price backdrop give us confidence that activity will be strong to start 2022.

Should activity pick up in 2022, we expect Northern White supply and demand fundamentals to improve, which should lead to opportunities for pricing and margin improvement over the course of next year. However, typically, the first quarter of the year is our lowest contribution margin quarter due to higher inventory adjustment expense as we normally draw wet sand from inventory to meet sales demand through the winter months.

So while we anticipate improving margins in 2022, we don't expect to see that improvement to start to materialize until the second quarter of next year, again assuming demand picks up as currently anticipated. We are currently building our Waynesburg terminal and expect it to be completed and operational late in the fourth quarter. With the terminal capital, we now expect capital expenditures for the year to be in the $14 million to $16 million range and expect to be free cash flow positive for the full year.

This concludes our prepared comments, and we will now open the call for questions.

Questions and Answers:

Operator

Thank you, sir. [Operator Instructions] Your first question is from the line of Stephen Gengaro with Stifel. Your line is open.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Thanks. Good morning.

Charles E. Young -- Chief Executive Officer

Good morning, Stephen.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

You talked a bit about the higher production costs and the logistics costs in the quarter which impacted, I think, contribution margin on a per ton basis. Can you shed more light on sort of the impacts from both and how we should think about the -- those issues as we go through the fourth quarter? I'm just trying to get a handle on how we should be thinking about profitability?

Lee E. Beckelman -- Chief Financial Officer

Yeah, I mean, I think like everyone, we are seeing some increased cost pressure, particularly on our utilities -- utilities with our natural gas pricing. Natural prices have doubled over the last year. And so, that's having an impact on us. We see that kind of staying at current levels but flattening out. So I don't necessarily see. And then logistics is really kind of timing and getting rail in and out. And so, it's somewhat of a management call. So I don't -- I see it being maybe a slightly higher cost going into the fourth quarter but relatively flat to where we are today.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

And when you talk about the higher logistics costs, just so I understand a little bit better. So you -- if you sell it at the mine gate, it's pretty straightforward. But when you incur those logistics costs, they're not ultimately borne by the customer. I'm just trying to figure out how the higher logistics costs impacts your profitability.

Lee E. Beckelman -- Chief Financial Officer

Well, as we've kind of highlighted in the past Stephen, we've moved to more in-basin sales, nearly all of our volumes that go through Van Hook, for example are in-basin. A lot of our volumes in the Marcellus today are in-basin sales with Waynesburg and that terminal will be moving to more in-basin sales. When you sell sand on an in-basin basis, you basically price the sand into the truck at the terminal in that basin. So we have a higher price for the sand, but we are now directly responsible for the freight, for the railcar, for the transloading of that sand into the truck at the terminal.

So those costs now get built up in our freight cost and you see that higher freight cost. And it's also we recognize the benefit of that incremental value by adding those services through selling that sand at a higher price and that flows through into our sand revenue. So that's how you basically -- that's how the in-basin pricing works versus [Indecipherable] mine where we put the sand into the railcar at the mine. And typically, the customer is responsible for the freight, for all the railcar potentially and also for any transloading that's done in the basin.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

I understand. That's very helpful. So, the expectation is hopefully as demand rises and supplies tight you ultimately receive better pricing for product, which offsets that in 2022.

Lee E. Beckelman -- Chief Financial Officer

That's correct. So, we hope through having control of -- in effect, having Waynesburg like Van Hook and having more terminals under our control. We can reduce the transloading cost by managing that ourselves versus going through a third party. Secondly, by having more outlets and more railroads, we can try to efficiently get more efficient cost of rail into those terminals. And then third, by having that access point closer to the customers, we can be opportunistic and grow our base in those markets and have a chance for pricing improvement, as well as get incremental sales volume and get a higher activity level through our plant, which allows us to hopefully get a higher utilization and bring down our cost of production.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Got it, I understand. And one follow-on from me, when you think about the evolution of the frac sand market over the last couple of years, your volumes have been very strong. I mean, you're -- there seems to be share gain underlying now I think based on your success versus some of the peers. Are you seeing that? Like do you feel like you had share gain? And what's sort of the competitive landscape look like to you currently?

Charles E. Young -- Chief Executive Officer

Stephen, I'm going to let John answer this question for the most part, but we definitely see a lot of our competitors have kind of fallen down a little bit with a lot of their plants. Some of those plants have been taken apart to support other plants, and there hasn't been a lot of investment in the space. So, we do think Northern White Sand supply could be tight going into next year. With that, I'll turn it over to John.

William John Young -- Chief Operating Officer

Yeah. I would add to those comments from Chuck. What we're seeing is folks coming to us that have previously been customers of ours, but maybe have been -- we've been kind of a second choice with them. And the one thing that you learn when you've been in the sand business for a while is if you aren't keeping up on your maintenance and capital spending to make sure that you're reliable when you want to demand production from your plants sometimes you have a little bit of an issue with that. So we're definitely seeing a little bit of that. We're certainly seeing a little bit of an uptick in what we would consider to be activity in our core basins in Marcellus, out in the Midwest and down into kind of Oklahoma also.

So it's a combination of things. And one of the things I'd just like to add on to it because I think, Stephen, you were asking about whether we can pass on some of those logistics expenses on to our customers. Typically, we can, but there's usually a lag involved in that. For example, if our natural gas price goes up. Usually, we'll see the benefit -- not the benefit, but we'll be able to extract that additional revenue from the customer in the following quarter. It's kind of a back looking thing. So we do have a few mechanisms. The same goes for kind of rail fuel surcharges and things like that. So there are mechanisms built into our pricing. They just tend to lag behind a little bit of where our pricing is today.

Charles E. Young -- Chief Executive Officer

And one other add to that on the rail side, there's no one moving sand more efficiently to North Dakota than we do to our terminal there because of the way it's build on both ends. And likewise in the Marcellus we feel we're going to be very -- when Waynesburg comes we'll be in the same situation.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Good. No, that's a good color. That's a good -- I should have asked the question a little more eloquently about the recovery of cost so that's very helpful. Thank you.

Operator

Your next question is from the line of John Daniel with Daniel Energy Partners. Your line is open.

John Daniel -- Daniel Energy Partners -- Analyst

Hey. Thank you. Good morning. Chuck, in a perfect world.

Charles E. Young -- Chief Executive Officer

Good morning, John.

John Daniel -- Daniel Energy Partners -- Analyst

Hey. In a perfect world, what percent of your volumes would be industrial versus frac sand? And how long would it take to get there?

Charles E. Young -- Chief Executive Officer

So in a perfect -- so we do like some of the pricing points in the industrial sand space. We haven't really put a target on that. The one thing we do know is that we don't know industrial sands like Rick Shearer does. He's the guy who founded the industrial sand or Industrial Minerals Organization, used to be the COO of U.S. Silica. So we feel like we're in really good hands there. And he's got a lot of energy, and he's building the team, and we're super excited because we feel we're going to have lots of offerings in that area. And we definitely like the margins in that business a little bit better than the oil and gas currently. So we're excited to get that going.

John Daniel -- Daniel Energy Partners -- Analyst

Okay. So got it. Logistics; we hear a lot about supply chain issues. I'm just curious, are you having -- are there any issues with the rails in terms of getting -- moving stuff these days? Just walk -- I'm not as close to the rail side. Just your thoughts on that market right now.

William John Young -- Chief Operating Officer

Yeah. So, John, as you know, kind of we designed our entire logistics model for the most part around unit train service and kind of giving the railroads good notice as to when these trains are going to leave. We don't do a heck of a lot of manifest rail service, so we're not kind of reliant on day-to-day problems at the railroad we're having. We have a forecast and a schedule with them. And so, so far, we haven't seen a huge impact on our business.

If we do, it's a train leaving 10 hours late versus leaving 10 hours early but so far, the railroads have responded really well. They're good partners of ours. We have the ability to escalate with our relationships internal to them. We don't ask them for things that, that are unreasonable. And that comes from just being well thought out on how our logistics operates. So, so far, no. We see what's going on out there. But in general, if there's power available and it's a relatively easy move, the railroads tend to favor that and that's kind of how unit trains -- that's kind of our unit train model.

Charles E. Young -- Chief Executive Officer

I'd add to that, John -- with our investment overtime, we believe the giant rail yard in the basin and giant rail yard on the originating side. So that helps you buffer the -- any hiccups that might be there.

John Daniel -- Daniel Energy Partners -- Analyst

Okay. That's all I had, guys. Thank you.

Charles E. Young -- Chief Executive Officer

Thank you, John.

Operator

Your next question is from the line of Samantha Hoh with Evercore ISI. Your line is open.

Samantha Kay Hoh -- Evercore ISI -- Analyst

Hey, guys. Quick question about this new Appalachian terminal. Is this one that's dedicated to you or exclusive to your use?

William John Young -- Chief Operating Officer

Yeah, it is. It's a facility that we're building and have exclusive rights to.

Samantha Kay Hoh -- Evercore ISI -- Analyst

Okay, great. And is there -- could you be potentially using it or giving access to other non-oil and gas customers where you would earn some sort of revenue on this facility?

William John Young -- Chief Operating Officer

Are you referring to kind of our industrial products business?

Samantha Kay Hoh -- Evercore ISI -- Analyst

Well, that or maybe just other sources -- materials that needs to be imported in. I think there's been talk of like other types of like wealth-based material that could be transported via rail. And just kind of curious.

William John Young -- Chief Operating Officer

Yeah. Well, I think at the moment our focus is going to be on efficient transport of sand and then obviously this site will become a place to stage our Last Mile equipment. Given that it's a large rail yard and all those types of things that there's other commodities or anything that makes sense to come in there, we'll look at that in the future. But right now, we're primarily focused on sand, supporting sand requirements of E&Ps in that area, E&Ps and pressure pumpers in that area. So if something comes up, we'll be opportunistic. But this is being set up as a sand transport terminal, very similar to our operation out in North Dakota.

Samantha Kay Hoh -- Evercore ISI -- Analyst

Okay, great. With regards to the build out of the industrial parks business, is there a need for capex or are you going to -- and I'm assuming that you don't need like a whole separate mine that -- maybe just like extra equipment to grind up the product and things like that. Like can you give us a sense of what your capex need could be for next year to build out that business?

Lee E. Beckelman -- Chief Financial Officer

Yeah. Samantha, there will be some need for capex but we're going to go into our budgeting process and looking at that as we speak. And so we'll give more guidance overall on our total capex on our March call including what we would be investing in ISP. For the most part, though, we are at least initially focusing on our initial asset base at Utica and Oakdale and there'll be incremental investments, but I wouldn't say they're going to be significant overall relative to our overall budget. And so -- but we'll give more clarity on that as we go through and kind of develop our plan as we move into next year on some of the incremental investment we plan to make on industrial sales as part of our budget.

Samantha Kay Hoh -- Evercore ISI -- Analyst

Okay, excellent. And then maybe just one last one. Can you talk about maybe how conversations about contracts are going with some of your customers? I mean it seems to be like that end of the year where there's people talk -- like, looking at their demand for next year and thinking about how they want to contract out going forward. You guys have always kind of given year-end summaries of how many contracts you have and things like that. I was wondering if you could just kind of update just sort of like those type of customer conversations.

Lee E. Beckelman -- Chief Financial Officer

Yeah. Certainly, particularly with some of the hiccups that some of our customers are seeing these days, there is renewed interest in getting your contracts out there. I think from our perspective, we're being conservative on what we want to contract versus what we want to put out into the sport space. One of the things that we've gotten very comfortable with over the last 18 months or so is operating in the spot world effectively. And at the end of the day, as we're seeing kind of the writing on the wall, these price points are improving. We're seeing improvement. We expect improvement to continue. We've got to be careful about wanting to contract it -- kind of lower pricing versus what may be available in the future. But certainly, there's a lot more interesting contracts from our customers today. We're evaluating those on a case-by-case basis, but we're going to do things that make sense for the business long term.

Samantha Kay Hoh -- Evercore ISI -- Analyst

Okay, great. Thanks, guys.

Charles E. Young -- Chief Executive Officer

Thanks.

Operator

[Operator Instructions] We have an additional question from the line of Stephen Gengaro with Stifel. Your line is open.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Thanks. Two quick ones, gentlemen. First, on the potential on the industrial front and you mentioned -- I believe you mentioned sort of the utilization of existing mines. Are there specific products that are conducive to your mines and/or customers that are relatively easy to access from those locations? Like, should we be thinking about any specific customer, any specific product mix or end markets you're targeting or is it too early to comment?

Charles E. Young -- Chief Executive Officer

So we've had Rick on board for just about a month. So we're letting him put all that stuff together, but preliminary indications is that we will be making some products out of both our mines. And additionally, we'll explore other opportunities as they come along.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Okay. Thanks. And then, the other quick one I wanted to ask you about, any thoughts on the PropX acquisition by Liberty and any kind of impact do you think that has on the Last Mile business in general?

Charles E. Young -- Chief Executive Officer

I would just say, in general, it points to the fact that moving sand to the wellhead is a very difficult job, and people need to be investing in that space. So I think, for us, it just points out that from our Last Mile side, we need to continue to get that business going up and running because it's a needed service and there's lots of opportunity there in that space.

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

Okay, great. Thank you.

Operator

I am showing no further questions at this time. I will now hand the conference over to Chuck Young, CEO, for closing remarks. Sir?

Charles E. Young -- Chief Executive Officer

Thank you for joining us for our Q3 call. We look forward to speaking with you in March.

Operator

[Operator Closing Remarks]

Duration: 31 minutes

Call participants:

Josh Jayne -- Director of Finance, Assistant Treasurer

Charles E. Young -- Chief Executive Officer

Lee E. Beckelman -- Chief Financial Officer

William John Young -- Chief Operating Officer

Stephen Gengaro -- Stifel, Nicolaus & Co., Inc. -- Analyst

John Daniel -- Daniel Energy Partners -- Analyst

Samantha Kay Hoh -- Evercore ISI -- Analyst

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