Please ensure Javascript is enabled for purposes of website accessibility

3 Reasons Frack-Sand Investors Are Likely to Continue Suffering in 2016

By Adam Galas - Apr 21, 2016 at 10:10AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Recently rising crude prices sent frack-sand stocks soaring. Here are three reasons this situation may end up being a short-term reprieve and why the rest of the year may be far less rosy.


Source: US Silica Holdings.

Since bottoming out at $26 per barrel in February, oil rallied 54% to above $40. This situation has greatly benefited investors in America's four largest frack-sand producers: Fairmount Santrol (NYSE: FMSA), US Silica Holdings (SLCA -1.58%), Hi-Crush Partners (HCRS.Q), and Emerge Energy Services (NYSE: EMES), all of whose share prices have been chucked into a wood chipper over the past year.

FMSA Chart

FMSA data by YCharts

However, there are three reasons investors shouldn't expect the recent rally to continue. Yet one of these stocks remains the best positioned to massively profit from the impossible-to-predict yet inevitable oil recovery.

Earnings have plummeted and might continue to deteriorate

Frack Sand Producer 2015 YOY Change In Sand Tons Sold 2015 Revenue Change 2015 Change in Average Price Per Ton Sold 2015 Change in Adjusted EBITDA
Fairmount Santrol (14%) (39%) (33%) (65%)
US Silica (10%) (27%) (28%) (55%)
Hi-Crush Partners 9% (12%) (11%) (45%)
Emerge Energy Services (21%) (36%) (5%) (63%)

Sources: company earnings reports, 10-Ks, investor presentations.

While all frack-sand producers suffered in 2015, the extent of the financial damage was far from equal. For example, Hi-Crush Partners managed to increase its market share the most last year. Thanks in part to its extremely strong transportation network, Hi-Crush was able to deliver sand directly to oil producers rather than have its customers pick it up at its Wisconsin facilities (in basin delivery).

Meanwhile Emerge Energy was able to maintain the best overall pricing power because it put its large number of idle rail cars to use to nearly double the proportion of tonnage delivered in basin, (which allows sand producers to secure higher prices) from 23% to 42%.

Fairmount Santrol, on the other hand, faces the worst declines in price per ton, and thus the steepest drop in profitability. That's because much of its business is in more expensive resin-coated frack sand. With oil and gas producers desperate to cut costs as much as possible, its more specialized sand simply couldn't maintain its premium price in the face of cheaper competition.

The thing that frack-sand investors need to remember, though, is that 2016 is shaping up to be an even worse year for each of these stocks. That's because in the fourth quarter of 2015 the average price per ton sold fell to new lows, indicating that 2016's average may end up even lower. For example, Hi-Crush's Q4 average price per ton sold was $52, compared with its 2015 average of $62.

In addition, Fairmount, Hi-Crush, and Emerge face a bigger threat than simply continued margin deterioration that could potentially threaten their ability to survive the worst oil crash in over half a century.

Overly leveraged balance sheets 
Three of the four frack sand producers has potentially precarious balance sheets. Just take a look at these net debt-to-EBITDA ratios:

  • Fairmount Santrol: 6.1
  • Hi-Crush Partners: 4.3
  • Emerge Energy Services: 8.6
  • US Silica: 2.2

Not only is US Silica's balance sheet by far the strongest, but its large cash position also allows it to wait out the oil crash and potentially even profit from it. That's because US Silica recently announced that it's taking advantage of its far stronger share price to sell an additional 8.7 million to 10 million shares at $20 each. While this might result in as much as 16% shareholder dilution, it could also bring in as much as $200 million in gross proceeds, which would raise US Silica's cash position to almost $500 million.

This situation should greatly increase US Silica's financial flexibility as the industry waits for energy prices to recover. For example, while US Silica could use that cash to pay down its debt, the company might use its cash to acquire more distressed competitors.

That would raise US Silica's market share from an industry best 20% to 30% and set it to come out of the downturn stronger than better poised for long-term growth.

Short-term sand demand is likely to keep declining

US Rig Count Chart

US Rig Count data by YCharts

Frack-sand investors need to realize that the recent sharp recovery in crude prices was largely due to speculators' hopes that an agreement to freeze oil production at current levels would alleviate the massive global surplus of oil. But that thesis may not last.

After all, Iran says it's committed to increasing production by over 1 million barrels per day and has called the freeze agreement "ridiculous." Meanwhile, Russia continues to increase production, and Saudi Arabia has said that without Iran and Russia's complying with the freeze, it won't go along with the deal.

Bottom line
With oil the oil markets still going through fits and starts as the global oil glut begins to clear, investors need to realize that frack-sand producers such as Fairmount Santrol, US Silica, Hi-Crush Partners, and Emerge Energy are in a potentially precarious position.

Only US Silica has a strong and strengthening balance sheet, while the others remain highly leveraged and at the mercy of their creditors, which makes the best long-term frack-sand investments.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Hi-Crush Inc. Stock Quote
Hi-Crush Inc.
HCRS.Q
U.S. Silica Holdings, Inc. Stock Quote
U.S. Silica Holdings, Inc.
SLCA
$16.23 (-1.58%) $0.26

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning service.

Stock Advisor Returns
328%
 
S&P 500 Returns
116%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 05/19/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.