It wasn't too long ago that Heckmann Corporation (HEK) had completed an accretive merger that should've driven the stock higher. On the way to large gains, the market for environmental services has hit road bumps as demand for shale drilling has declined. Oddly though, analysts have become more constructive on the oil services stocks outside of this general area.
The company is a leading environmental services provider dedicated to the movement, treatment and disposal of water generated by energy companies involved in the production of oil, natural gas liquids and natural gas.
The game-changing merger with Power Fuels (see Heckmann Makes Game-Changing Merger) promised significant improvements to margins and profits, but did the owners of that company become the big winners?
Power Fuels Merger
Heckmann continues to be slammed by downgrade after downgrade. Analysts have been rather harsh as well dropping estimates to a major extent even before the company can report one quarter of the combined numbers from the Power Fuels merger. . The merger finalized on November 30th and the company won't report Q4 numbers until March 11th.
The deal was originally envisioned as a game-changing merger, but the domestic oil services market couldn't have faced a worse market since the September merger. Demand for rigs drilling for natural gas are at lows not seen in 20 years and the oil shales have seen less drilling even in the face of high oil prices around the globe.
The company provided the following updated pro-forma metrics at a recent investor presentation:
Most noteworthy is the substantial increase in net income. Investors appeared more interested in the when it struggled to reach profitability.
As mentioned above, the stock has been crushed as several analysts downgraded the stock over the last few weeks. Analysts can't downgrade the stock fast enough
Jefferies - on the 21st analyst Scott Graham cut the stock to "Hold" from "Buy" and lowered the price target to $4.50 from $5.50. Scott notes a sluggish environment based on rig counts along with pressure on prices for Heckmann's water services. He lowered 2013 earnings forecasts to 9 cents.
Wedbush Securities - on the 11th analyst David Rose cut the stock to "Underperform" from "Neutral" and lowered the price target to $2.50 from $3.00. The analyst expects 2013 profit and revenue numbers to be well below expectations.
Compared To C&J Energy Services
A good example of the potential earnings impact to Heckmann would be a fellow oil services stock focused on the fracking business. C&J Energy Services (CJES) happens to be fast growing company focused on similar shale areas that also made a significant purchase to move into the Bakken.
The company reported the following highlights for Q4:
- Adjusted net income for the fourth quarter of 2012 was $35.2 million, or $0.65 per diluted share compared to the fourth quarter of 2011 was $49.9 million, or $0.93 per diluted share.
- Total revenue for the fourth quarter of 2012 was $286.3 million, an increase of 30% compared to $220.1 million for the fourth quarter of 2011 and down 7% compared to $307.8 million for the third quarter of 2012.
The most notable is that C&J Energy had a dramatic decline in earnings from Q4 of last year. Earnings dropped from $0.93 last year to $0.65 this year. One should expect similar results from Heckmann though all the different moving parts makes the bottom line difficult to actually derive.
The declining rig counts are a fact, but also misleading as drillers have learned to drill multiple wells using the same rig and drill pad. The efficiencies from less movements of rig should have a limited impact on Heckmann as the number of wells and fracking stages are the ultimate determinants of demand.
The following chart from the recent presentation highlights the potential for the oil shale business in the US.
With approximately 250M shares outstanding, the stock has a valuation of nearly $900M with the stock trading at $3.59. The revenue runrate should exceed $700M providing a compelling valuation with the company set up for strong growth in the next 5 years. Earnings estimates are dropping, but investors need to understand that the pro-forma results of the company added up to $110M in net income or earnings of nearly $0.50 per share based on the last twelve months.
The long-term demand for water service in shale drilling should only increase. The analyst downgrades miss the point of the valuation of this company that will only improve once the market rebounds. Prior to Q4, the combined company had adjusted EBITDA of $222M That number suggests a much higher valuation for this stock. While that numbers might dip based on Q4 and Q1 numbers, the company along with C&J Energy has made several aggressive moves that place the companies in a better situation as the market rebounds and natural gas drilling rebounds. It will happen at some point and investors should consider buying Heckmann on the dips.
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