Nuverra Environmental Solutions (NASDAQOTH:NESC) wants to clean up fracking -- or at least the water that producers use in the process. But Nuverra's business hasn't exactly cleaned up as of late: Its stock price has been trading in the low single digits. While I am a Nuverra investor and see plenty of reasons to buy shares, there are three areas investors want to watch. Continued deterioration in these three areas means that it will be time to dump shares of this water-waste management and oil-field service company.
Reason to sell No. 1: Debt gets worse
There have been a few negative articles of late that have called into question Nuverra's ability to stay solvent. Some had even suggested that Nuverra could be forced to declare bankruptcy as soon as next quarter. While there is reason to be concerned about the company's debt levels, Nuverra isn't going bankrupt anytime soon.
In fact, in an effort to quell investor's fears, the company recently proactively amended its $325 million bank credit facility to increase the permissible maximum total debt leverage ratio. This proactive move gives the company plenty of breathing room to fund its growth. That being said, its debt levels overall are an area of concern because it acts as a weight that could sink the company if its business turns south. Keep an eye on its debt levels: If its debt ratios continue to worsen, then it's probably time to cut Nuverra loose.
Reason to sell No. 2: Differentiation doesn't happen
Nuverra has a number of competitors both large and small that offer similar services. Not only that but many exploration and production companies have developed their own in-house solutions. Nuverra needs to prove that its pure play, full-cycle water solution is the better option. As the slide below shows, it has built up a solid asset base to pursue this strategy.
The problem is that some of its competitors, such as Key Energy Services (NYSE:KEG) and Basic Energy Services (NYSE:BAS), can offer a more robust set of products and services to customers than the more focused Nuverra Environmental Solutions, which really just handles water.
In the case of Key Energy Services, 17% of its revenue comes from fluids management while it also provides rig services, coiled tubing as well as fishing and rental tools. It's a much larger suite of services to serve producers through the life of the well. Further, Key Energy Services is quick to point out that there are relatively low barriers to entry to fluids management, which creates a fragmented market with lots of competition.
Basic Energy Services, like Key, also offers its customers a diverse array of services. In fact, fluid services is just over a quarter of its revenue. It gets 40% of its revenue from completion and remedial services with another 30% of its revenue from well servicing.
The key for Nuverra is that it needs to show a real value proposition from its focus on environmental solutions. This is the only way it can overcome its lack of diversity in other oil-field services that give its competitors the ability underprice Nuverra on fluids management as part of a broader package of services. If Nuverra's margins continue to erode because it can't differentiate its product, then it's time to let this stock go.
Reason to sell No. 3: Operational missteps continue
This has not been a good year for Nuverra. It has been plagued by the weather in both the Bakken and Marcellus. On top of that, once the weather cleared in the Marcellus, its business accelerated to the point where it couldn't handle the growth. It was forced to subcontract some of the work, which hit margins. Not only that, but it didn't have the right management team in place to execute in the Eagle Ford, which could cost it over the long term. These operational missteps and miscalculations really hurt the company this year.
On top of this both revenue and profits from fluid services are down across the industry. Both Key Energy Services and Basic Energy Services have seen a dip in revenue as competition remains fierce which is putting pressure on pricing. For Nuverra Environmental Solutions, this isn't the time to stumble because it doesn't have the same diversification as both Key or Basic to help make up the difference. If the operational missteps continue, then its time to send Nuverra packing.
Despite these challenges I really like Nuverra Environmental Solutions and think it can overcome and eventually outperform. I think its focus on being a full-cycle environmental-solutions provider as opposed to offering it as a one add-on like Key and Basic will win out over the long term as environmental solutions become a greater focus for energy companies. That being said, the company does have some issues it still needs to work through and if it is unable to, then it will be time to sell.
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Fool contributor Matt DiLallo owns shares of Nuverra Environmental Solutions. The Motley Fool owns shares of Nuverra Environmental Solutions and has the following options: long December 2013 $2 puts on Nuverra Environmental Solutions, long January 2014 $4 calls on Nuverra Environmental Solutions, and short January 2014 $3 puts on Nuverra Environmental Solutions. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.