Is CARBO Ceramics a Buy?

The ceramic proppant manufacturer is a shell of its former self. Will rebounding oil and gas drilling activity lift its fortunes?

Maxx Chatsko
Maxx Chatsko
Apr 25, 2018 at 8:03AM
Energy, Materials, and Utilities

Fifty-six percent. That's the percentage of CARBO Ceramics (NYSE:CRR) shares available for trade being sold short. Only one company on the entire New York Stock Exchange has more doubters than that (looking at you, Carvana).

Ninety-three percent. That's how far shares have fallen since the beginning of 2014. That was the last year the business was profitable, when annual revenue was 244% higher than the level delivered in 2017. So maybe the short sellers are onto something.

But with American oil and gas drilling activity growing once again, some investors may be wondering if the ceramic proppant producer is a buy on its turnaround potential alone. Can the second-most shorted stock on the market prove the critics wrong?

A businessman facing a big chalkboard with money bags and question marks drawn on it.

Image source: Getty Images.

By the numbers

Nearly every frack sand producer has had a rough time in recent years, although most of the misery was of the industry's own doing. Sand producers grossly overestimated demand during the last upcycle in the oil and gas industry, expanded like crazy, and got absolutely trounced when crude oil prices tanked and proppant demand dried up in 2014. The leading frack sand suppliers are only now beginning to regain the trust of Mr. Market, and even that process is unfolding at an excruciatingly slow pace.

CARBO Ceramics has been a notable exception. Shares have fallen 20% year-to-date, which makes it the worst performer in its industry as it has touched 10-year lows. There's good reason for that.

For starters, it has much more ground to make up compared to U.S. Silica, Fairmount Santrol, and Hi-Crush Partners, all of which were profitable in 2017. CARBO Ceramics was still taking giant impairment charges last year, something most peers have already put behind them.

Metric

2017

2016

% Change

Revenue

$188.7 million

$103.0 million

83%

Gross profit

($53.3 million)

($85.0 million)

N/A

Net loss

($253.1 million)

($80.1 million)

N/A

Cash and cash equivalents

$68.2 million

$91.7 million

(25%)

Source: SEC filing.

As the negative gross margin indicates, there's a bigger obstacle than simply being about a year or so behind peers: the business itself. CARBO Ceramics has historically focused on specialty proppants, including ceramic products and resin-coated sand. While they're stronger and provide superior characteristics compared to unprocessed Northern white sand (the leading product used in shale wells), they're also more expensive to manufacture.

Unfortunately, the oil industry's ongoing recovery may not provide much relief for CARBO Ceramics. That's because the oil industry is increasingly prioritizing margins over production volumes, and specialty proppants are not margin-friendly. Oil and gas drillers have largely decided that the extra cost isn't worth it outside of deepwater assets.

That's why the proppant supplier pivoted last year and began selling significant volumes of unprocessed Northern white sand.

Proppant Type

2017 Volume

2016 Volume

2015 Volume

Ceramic

389 million pounds

356 million pounds

818 million pounds

Resin-coated sand

0

0

19 million pounds

Northern white sand

2,190 million pounds

311 million pounds

819 million pounds

Source: SEC filing.

As you can see, the company's total supply volumes have been all over the map in the last three years, but the proportion from each proppant type was split about 50/50 in 2015 and 2016. That changed in a big way last year, when ceramic proppants accounted for just 15% of total sales volume.

That pivot helped to boost revenue, but CARBO Ceramics still spent more than $1 for each dollar of revenue it generated in 2017. The good news is that the situation should improve in 2018, as management has guided for revenue of about $250 million and slightly positive adjusted EBITDA in the year ahead.

The bad news is that the business is still a mile from sustainably profitable operations, and well behind peers that have mines within the Permian Basin itself. CARBO Ceramics has big plans to diversify its business with industrial and environmental products, but has simply not proven capable of producing reliably profitable sales from non-energy customers, as several of its peers have done.

Frack sand rigs with hoses, situated at a rig.

Image source: Getty Images.

Pass on this proppant supplier

While CARBO Ceramics is a turnaround candidate on paper, there's already a lot of faith baked into share price. It's well behind frack sand peers on just about every metric, it has been slow to adapt to the changing realities of its core market, and it's not close to being profitable. Investors may get more details on the pace of progress when it reports first-quarter 2018 earnings on April 26, but this stock has a long way to go before it's a buy.