At the beginning of the year, Hi-Crush Partners' (NYSE:HCLP) management braced investors for a tough fourth-quarter report that would feature lower than anticipated sales and a suspension of its distribution. Considering that investors were warned of a challenging quarter, the numbers that the company produced weren't that bad. Even though volumes were down significantly, the company was able to generate a modest operational profit thanks to some of management's adjustments. Let's take a look at what the company did to make this past quarter palatable for investors, and whether that makes this stock more attractive.
By the numbers
|Metric||Q4 2018||Q3 2018||Q4 2017|
|Revenue||$182.2 million||$213.9 million||$216.4 million|
|EBITDA||$11.4 million||$45.9 million||$53.8 million|
|Distributable cash flow||$1 million||$40 million||$51.9 million|
By no means was this a good quarter for Hi-Crush, but it probably could have been a lot worse. Well completion activity -- the part of the process that involves fracking and using sand -- ground to a near halt in the fourth quarter as many exploration and production companies either exhausted their 2018 capital spending budgets early or struggled to obtain sufficient takeaway capacity in pipelines. The oil services companies that do the completion stage -- giants like Halliburton and Schlumberger -- noted significant drop-offs in completion activity in the quarter, which led to a record inventory of drilled but uncompleted wells (DUCs) across the lower 48. At the same time, Hi-Crush and its peers have been bringing loads of new supply onto the market. This one-two punch of surging supply and diminishing demand means the price per ton of sand should fall through the floor.
What was surprising about these results was that the company was still able to produce a respectable contribution margin per ton sold. Management noted that its contribution margin was $14.35 per ton. That number is significantly below the $30.94 per-ton margin it was getting six months ago, but considering how bad things were expected to be, this result was commendable. Management was able to generate a modest operating profit for the quarter due to the combination of three factors:
- It has significantly increased its take-or-pay contracts such that 51% of its sales were direct to exploration and production companies under these contracts in the quarter.
- Its logistics and last-mile service continues to grow and enhance the margin of per ton sold, and
- Management was quick to shutter operations at one of its mines to cut operating costs.
All in all, management should get some credit here for responding quickly to the deteriorating market.
What management had to say
Signing exploration and production companies up to these long-term contracts that include logistics services has been one of management's priorities. It was even able to sign up two customers to contracts since it last reported earnings. In December, it signed Chesapeake Energy up to a long-term supply agreement of an unspecified amount and one PropStream logistics crew, with the option for more logistics crews based on demand. It also signed CNX Resources to a similar contract in January.
Management thinks that these kinds of contracts are the key to the company's long-term success, and during the Hi-Crush's conference call, CEO Robert Rasmus highlighted the benefits for both it and its clients:
The full-service, integrated model we have developed was designed to most efficiently service the E&Ps. We have spoken extensively in the past about the value we and the E&Ps themselves see in these important partnerships. It's a different kind of relationship, built on long-term perspective, integrated planning, and tangible efficiencies, that will be the foundation of our company going forward. It's truly a win-win strategy when E&Ps choose to direct-source with Hi-Crush, offering benefits on both sides of the relationship.
From our perspective, we gain better visibility into demand trends and fundamentals. We establish strategic partnerships based on a long-term perspective, we experience increased growth opportunities to provide our full scope of services, and we reduce volatility in activity and performance. From the perspective of our E&P customers, by working with Hi-Crush, they gain a dedicated frac sand provider capable of delivering integrated mine-to-well-site services, they have exposure to multiple sources of sand that ensure reliable supply, they realize delivery-point optionality across their supply chain, and they align with a partner with a proven track record of safety.
You can real a full transcript of Hi-Crush Partners' conference call here.
Still waiting to see what happens with corporate change
If slowing demand and falling sand prices were the only concern for Hi-Crush Partners investors, then this quarter would be incredibly reassuring that the company is building a business that can better handle the volatility of the oil services business. Unfortunately, that isn't the only thing on investors' minds right now. Management is also in the process of converting the company from a master limited partnership to a more conventional C-Corporation. What we don't yet know is the terms of this transformation and how it will impact shareholders. Typically when a company goes from MLP to C-Corp, there are some cash tax consequences for investors.
Investors can expect a proxy statement with the terms of this conversion shortly, because management intends to hold a special meeting on the deal relatively soon. For those not already invested in this company, it is probably best to wait and see what the terms of this conversion look like. The good thing is that once that conversion takes place, Hi-Crush's management seems to have built a more sustainable business backing up those shares.