Is Hi-Crush Partners LP a Buy?

As with most companies supplying frackk sand to oil and gas drillers, Hi-Crush Partners LP (HCRS.Q) turned a corner in 2017 after reeling from the industrywide downturn in the two previous years. As with all of its peers, that surprisingly hasn't translated into a higher stock price. In fact, the company's shares have dropped 38% in the last year alone.

If it's any consolation to shareholders, the stock has moved sideways since the company announced it would be reinstating its lucrative dividend. The yield of 5.5% is a testament to the reestablished health of the business and reminiscent of the good old days, but it may not mean much to investors without at least modest price appreciation.

Can shares of Hi-Crush Partners LP catch up to match its operational improvements?

Image source: Getty Images.

By the numbers

The $1 billion frackk sand producer delivered quite a turnaround in 2017 compared to the prior year. Total revenue nearly tripled thanks to higher selling prices and a more than doubling of volumes sold. 

Data source: SEC filings.

Selling larger volumes of higher-priced product certainly helped Hi-Crush post some eye-popping year-over-year improvements from 2016 to 2017, but there were other factors at play. For instance, higher sales volumes made more efficient use of the company's robust terminal and distribution network, which even forced it to dust off previously idled railcars. The supplier also made it a focus to rely on in-basin sales to cut down on logistics costs per ton sold.

Another important consideration, especially considering the dividend is back, is the company's strong operating cash flow. Hi-Crush estimates that its distributable cash flow in 2017 totaled about $112 million. The current annual dividend payments will only total about $53 million, which means there's plenty of cash remaining to expedite debt repayments, increase the quarterly distribution, and fund growth projects. 

Speaking of which, the company is about to reap a full year of benefits from the Kermit mine, which reached full capacity in October 2017 and is perfectly positioned in the heart of the Permian Basin. 

Frac sand tanks and hoses on site at a gas well. Image source: Getty Images.

Looking ahead

Hi-Crush expects American frackk sand consumption to increase 25% in 2018. That will help the proppant supplier operate closer to its full annual production capacity of 13.4 million metric tons (versus 8.9 million metric tons sold last year). Most of that growth will occur in the all-important Permian Basin, which already consumes just shy of half of all frack sand in the United States. 

That's an important consideration for multiple reasons. First, the Kermit mine is conveniently located in the Permian Basin. The company estimates that 80% of all activity in the energy region occurs within a 50-mile radius of one of its terminals. That provides Hi-Crush with an enviable position to cozy up to customers on its doorstep, all the while offering them among the lowest transportation costs in the industry. 

Second, while the Permian Basin is poised to consume increasing amounts of frack sand, trends under way actually make the growth potential for Hi-Crush higher than what will be reported in the total numbers. How so?

Image source: Getty Images.

Some 30% of all proppant used in the energy play today is of a variety called regional brown sand, which is exactly what it sounds like: product supplied from the surrounding region. But newer mines coming online, such as Kermit, supply a different type of frack sand simply called Permian sand. It's of comparable quality to regional brown sand, but is considerably lower-cost due to more favorable logistics. That's why it's expected to displace regional brown sand over time in addition to supplying as much as 50% of the Permian Basin's frack sand requirements. In other words, Hi-Crush will be able to capture market share from the energy basin's growing demand and from displacing other products in the market today.  

A full-year of operations from Kermit has management eyeing sizable growth right off the bat in 2018. Hi-Crush has guided for sale volumes of between 2.7 million to 2.9 million tons in the first quarter of the year, or nearly double the 1.4 million tons sold in the year-ago period. And over 90% of the Permian mine's production is contracted in fixed-rate agreements. 

That gives management confidence that it can execute on its goals to create shareholder value, which include growing the distribution 10% per quarter and repurchasing up to $80 million worth of shares this year. Considering Hi-Crush stock is down 71% in the last three years thanks in large part to a heavy dose of dilution, this is management's way of making it up to shareholders.

Image source: Getty Images.

Wall Street has this energy stock wrong

While shares of Hi-Crush have performed much better than peers U.S. Silica and Fairmount Santrol in the year-to-date period -- losing only 1% compared to losses of 24% and 14%, respectively -- merely breaking even after solid operations in 2017 is hardly fair.

Wall Street doesn't seem to be properly accounting for the reinstatement of a lucrative dividend or meaningful opportunities for growth in the year and years ahead. There is some downside, such as the fact that the company is solely dependent on the oil and gas industry, whereas some peers have also diversified into high-margin industrial and specialty products, but shares trade at comparable valuation metrics to peers nonetheless. Long story short, investors looking for value may want to consider giving this frack sand producer a closer look -- or even scooping up shares.