CARBO Ceramics Inc. Q1 2010 Earnings Call Transcript

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 |  About: CARBO Ceramics Inc. (CRR)
by: SA Transcripts

CARBO Ceramics Inc. (NYSE:CRR)

Q1 2010 Earnings Call Transcript

April 29, 2010 11:00 am ET

Executives

Gary Kolstad – President and CEO

Ernesto Bautista – VP and CFO

Analysts

James West – Barclays Capital

Steve Ferazani – Sidoti & Company

Jeff Tillery – Tudor, Pickering Energy & Co.

John Daniel – Simmons & Company International

Brian Uhlmer – Pritchard Capital Partners

Roger Read – Natixis Bleichroeder

Operator

Hello and welcome to today’s CARBO Ceramics first quarter 2010 earnings conference call. At this time, all participants are in a listen-only mode. After management’s remarks, we will conduct a question-and-answer session and instructions will follow at that time. Please be advised that this call is being recorded today, April 29th, 2010, and your participation implies consent to our recording of this call. If you do not agree to these terms, simply disconnect your lines.

I would like to remind all participants that during the course of this conference, the company will make statements that provide information other than historical information, and will include projections concerning the company’s future prospects, revenues, expenses or profits.

These statements are considered forward-looking statements under the Safe Harbor Provision of the Private Securities Litigation Reform Act of 1995 and are subject to risks and uncertainties that could cause actual results to differ materially from those projections. These statements reflect the company’s beliefs based on current conditions, but are subject to certain risks and uncertainties that are detailed in the company’s press release and public filings.

Your host for today’s call is Mr. Gary Kolstad, President and Chief Executive Officer of CARBO Ceramics. Mr. Kolstad, you may begin your call.

Gary Kolstad

Good morning and thanks to everybody for joining us to discuss CARBO’s first quarter results along with our outlook for the remainder of the year. The highlights of the first quarter: This morning, we reported first quarter revenues of $123.4 million, along with net income of $19 million or $0.82 per share, an increase of 36% and 16% respectively from last year’s first quarter.

Global proppant sales volume totaled 370 million pounds for the first quarter, which is a new quarterly record for us and represents a year-over-year increase of 46%. North American proppant sales volume increased 47% year-over-year, while international proppant sales volume increased 45% compared to last year. We are pleased with the increasing economic success our clients are realizing when they use our high conductivity ceramic proppants. This is becoming very apparent in the well successes our clients are seeing in the Bakken, Eagle Ford, Granite Wash and Haynesville plays. Our products are being utilized with growing frequency in resource plays producing both oil and gas, which illustrates our clients' awareness of the benefits of Economic Conductivity. We are also benefitting from the shift in E&P capital expenditures into the oil plays.

As we pointed out during last quarter's earnings conference call, we expected proppant sales volume to accelerate in the first quarter of 2010. We were able to meet the increased demand by drawing from our finished goods inventory to augment the output from our manufacturing facilities, which were operating at capacity. The strategy we employed last year, to maintain high levels of production during slow periods, benefitted us this quarter. We are also seeing continued expansion of our Falcon Technologies business, including securing a contract to apply our lining technology in the down-stream business. We remain confident about the potential that this business has, not only in its existing oilfield applications, but as demonstrated recently with the value that its products and services can bring to other industry segments.

We experienced a year-over-year increase in operating profit of 18% due to increases in sales volume, partially offset by a decrease in average selling price compared to the first quarter of 2009. SG&A and other operating expenses for the first quarter of 2010 increased $2.3 million on a year-over-year basis, largely due to the inclusion of the Falcon Technologies business, which was acquired in October of 2009. Net income for the first quarter of 2010 increased 16% compared to the first quarter of 2009.

Some business highlights, the E&P industry continues to report strong production results when employing our ceramic proppants. We saw increased usage in oil-bearing reservoirs during this quarter and an awareness of its benefits when employed in reservoirs exhibiting multi-phase flow characteristics. In our continuing commitment to grow our business through innovative product development, we are pleased to announce the construction of a new CARBO Technology Center has commenced in Houston. The Technology Center will focus on developing and commercializing new products which address our clients' needs in the oil and gas industry. Completion of the Technology Center is expected in the third quarter of this year.

In March, Falcon Technologies signed a contract with an Illinois-based down-stream operator. This contract award marks the first installation of the Falcon Liner outside of the upstream oil & gas segment. It demonstrates the diverse applicability of Falcon's products and services. We are progressing forward with the introduction of Carbo-Bond, our resin-coated proppant product line. We have had very productive discussions with a limited group of operators and service companies who are ready to assist in introducing Carbo-Bond, and we expect to be shipping to stocking points in the second quarter.

Also in the quarter, the ownership of intellectual property rights underlying our FracproPT software, which is the industry's most widely used fracture design modeling software, was acquired in March. The acquisition of these rights provides our engineers and developers flexibility to upgrade and advance the capabilities of this software technology, while maintaining its proprietary nature.

Now, looking at the outlook, the near-term story for natural gas remains cautious, given the supply-demand situation. It is difficult to say with certainty what market condition the second half of 2010 will provide in natural gas. However, given the price of oil, some industry experts expect activity in oil drilling to remain strong. Demand for our products is very strong and we are excited to bring Toomsboro Line 3 online at the end of November.

For the next two quarters, we would expect our ceramic proppant sales volume to closely match our production capacity. As stated previously, we drew down our finished goods inventory in the first quarter. In addition, during April, we conducted some plant maintenance shutdowns, which will reduce our Q2 production output by approximately 10 million pounds.

We continue to be committed to growing CARBO for the long-term. At our Toomsboro, Georgia facility, Line 3 is expected to add 250 million pounds of production annually and will be completed by the end of November. We had previously mentioned that would be completed by the end of the year, so it’s moved up approximately one month. Toomsboro Line 4 is expected to add another 250 million pounds of annual production by the end of 2011. In addition, the focus on environmental stewardship by many of our E&P companies provide us confidence that the demand for our Falcon Technologies products and services should continue to grow and develop.

With respect to our financial situation, our overall financial condition remains very strong, including maintaining a debt-free balance sheet. This completes our prepared remarks, and at this time, we are happy to address any questions.

Question-and-Answer Session

Operator

(Operator instructions) And our first question comes from James West from Barclays Capital.

James West – Barclays Capital

Hi good morning, Gary.

Gary Kolstad

Good morning James.

James West – Barclays Capital

And great quarter. Gary, as you think about on a pricing for your product going forward, I think it's safe to say proppants is probably the tightest area of the industry currently. I know historically CARBO, and this mostly dates to before I think you becoming CEO of the company, but CARBO would move up price and in a good year, maybe 3% to 5% and maintain pricing during downturns. At this point, do you think it's time for maybe a philosophical shift in pricing and maybe move prices up faster given the tightness in the market?

Gary Kolstad

I mean, just going to go back a little bit there, in the fourth quarter conference call, we said we expected to move price up 3% to 5% by the end of H1 and I certainly think that will take place with some of that already gained in Q1 as shown by the results. When we look at it, you are correct on the plus side, demand is greater than supply and in particular, our products making the wells produce better, which is really showing a lot. That adds to the demand for our products. Conversely, you know what we look at as we look at the industry conditions, we still have very low natural gas price, we have very low service prices. So, our clients, both the E&P and service companies are still having pretty tough time and we are not quite sure what’s going to happen in H2 and nor do I think anybody knows, we are confident in oil, less confident in gas. In fact, it might be healthy for the industry to drop some gas rigs.

Then we also throw in there the fact that we are going to bring on 20% capacity, which has now moved up and there is only 7 months away, which is a very short time period in the way we look at things. And then finally, we have good margins and we want to grow our volumes. So, when we look at all those factors, I think we are going to probably stick with our statement for the time being that we will have a 5% and maybe a smidge and above that improvement by the end of the first half and we will reevaluate that as we see what happens in the second half.

James West – Barclays Capital

Okay, that's helpful. Now when Toomsboro Line 3 comes on, will the impact or the amount of capacity that will be available on an annual basis, is that going to be instantaneous, or is there a several month period where you ramp up that line?

Gary Kolstad

I would tell you our guys are so good at those plants, every time we brought a line on, it’s gotten better and better. So, we will be producing sellable proppant in December for sure, and I think the ramp-up, I wouldn’t be surprised in December that we don’t see at a minimum 50% of the output and then it just quickly goes up. I think Line 2, we were at name plate type capacity within several months. It’s relatively quick for us.

James West – Barclays Capital

Okay, and then is there the possibility that Line 4 could be moved up to an earlier date?

Gary Kolstad

We are not probably going to anything about that to a little bit later. We are very pleased with Line 3, and like I said, we have knocked a month out of it now. I wouldn’t expect to knock another month out of it, but I don’t want any false expectations there, but we are very pleased to knock a month out of it. I think we will be producing proppants before December 1st. So, we are happy with that and we will just Line 4 come on when it come on and we will give you an update as time goes on.

James West – Barclays Capital

Okay. Thanks Gary.

Gary Kolstad

You bet.

Operator

Our next question comes from Steve Ferazani from Sidoti & Company.

Steve Ferazani – Sidoti & Company

Good morning Gary.

Gary Kolstad

Good morning.

Steve Ferazani – Sidoti & Company

Sounds like, even given the concerns of natural gas and the likely pullback, you are pretty comfortable that you are going to maintain full capacity sales. Does that indicate that you have seen significant growth out of places like the Bakken and the Granite Wash that, that can overcome any potential Haynesville slowdown?

Gary Kolstad

Steve, that’s absolutely right, and a comment I made there earlier, the fact that the oil plays are incredible demand on us now and when you think about that the two-phase flow that often shows up with gas and liquids even more drives the value of ceramic right to the conductivity in that. So, yes, absolutely, and all those ones you named, the Bakken, the Granite Wash, the Haynesville of course is still extremely big for us, and then the Eagle Ford is really picking up steam, and I wish we could move more up to the Marcellus for that matter, but no, we are confident and that’s probably why it sounds strange for me to say I hope the gas rates go down a little bit. I think that’s healthy for the industry and I don’t think it will hurt us for that to happen. So, yes, we are really seeing the demand in all those places. If you watch these people that are announcing these wells, this gives us more and more confidence all the time.

Steve Ferazani – Sidoti & Company

Okay. And then on the international side, it sounds like that you are starting to see volume rebound in those markets. Can you comment a little bit on that?

Gary Kolstad

Yes, we are actually very pleased there too. Some of the key personnel placements we have made over the last couple of years, they are really starting to pay some dividends, in particularly very happy with what we call EAME; Europe, Africa, Middle East. And even some of the other ones are coming along good. So, we are kind of multi-year type of peak there. So, some of our strategies and our plans are taking place there. Once again, we just wished we had more proppants to get to them.

Steve Ferazani – Sidoti & Company

How can that affect margins in terms of whether you are sending more of your international plant product back to the US, or you are selling it into foreign markets? Can you comment on that?

Gary Kolstad

Sorry?

Steve Ferazani – Sidoti & Company

Can you quantify it all or give us an idea of what the impact is one way or the other?

Gary Kolstad

On balance, sometimes it improves it. In some of the high profile areas, the highest connectivity profit proppant down the market is CARBOLITE. And so, some of the key projects around the world will demand a lot of that in an overseas environment and that’s a very good product for us. And then the other thing that I would say that bounced a little bit, Russia is still a challenging market, internal domestic where we have a plant, right that produces inside. But on balance, I would say it won’t negate anything and in some cases may help.

Steve Ferazani – Sidoti & Company

Thanks a lot, Gary. I appreciate it.

Operator

Our next question comes from Jeff Tillery from Tudor, Pickering.

Jeff Tillery – Tudor, Pickering Energy & Co.

Hi, good morning.

Gary Kolstad

Good morning, Jeff.

Jeff Tillery – Tudor, Pickering Energy & Co.

Gary, as I look at the realized pricing in the first quarter. I mean obviously mix issues can play – can swing the cents per pound calculation a little bit. But it looked like most of that 5% price increase you talked about was realized in the first quarter. Is that fair or did mix shift influence the realized pricing enough that there's still more to come?

Gary Kolstad

I think what I said a couple of minutes ago was the majority, maybe that’s wasn’t quite I said, but that what’s I meant anyway the majority of those gains that we hope to get by the second half were, the majority of us probably captured in Q1, yes.

Jeff Tillery – Tudor, Pickering Energy & Co.

Okay. You mentioned Carbo-Bond, I know you guys have been working on some other technologies as well. Anything that in the technology front that you see as potential meaningful revenues in the 2010 timeframe?

Gary Kolstad

Carbo-Bond would of course add a lot if we could feed more supply to it. So, what happens is that as we get that out, what it will do is add to the – obviously the price and incremental dollars of earnings, right. So, we are adding a technology to an existing substrate or ceramic proppants. So, that will help us as we get that out. We are also I think fairly close to introducing Iprop [ph], and that will be a technology add to a product and we are still in field test on that, but I suspect that will be successful too. Now, once again, that’s just an add-on technology to existing proppant. But yes, Carbo-Bond will help, we are excited about that. We are seeing a lot of, I think energy by our clients to use it. So, we are trying to push ourselves a little bit there.

Jeff Tillery – Tudor, Pickering Energy & Co.

Okay. That’s all the questions I had. Thank you.

Gary Kolstad

Thanks.

Operator

Our next question comes from John Daniel from Simmons & Company.

John Daniel – Simmons & Company International

Good morning guys. Good quarter.

Gary Kolstad

Thank you.

John Daniel – Simmons & Company International

Just a couple of clean-up questions. As I recall, the production capacity per quarter is about 300 million pounds. Is that fair?

Gary Kolstad

Yes, that’s pretty right on.

John Daniel – Simmons & Company International

Okay. And then the decline, is that demand-driven or is this a function of having eaten through a lot of the inventory?

Gary Kolstad

Absolutely, just the inventory reduction.

John Daniel – Simmons & Company International

Okay.

Gary Kolstad

There is no demand decline at all.

John Daniel – Simmons & Company International

Fair enough, okay. And then – but, well good answers, the other question I had then – last week I was on the Permian and I met with a private pumping company and he noted an increased use of ceramic in that market. But he tried to suggest that the ramp and his ramp in use of ceramic was because of a lack of resin-coated sand. It's always been my impression that the customer decides which proppant to use, not the pumping company. Is that fair?

Gary Kolstad

Excuse me for a second, was that your question then?

John Daniel – Simmons & Company International

Yes. I mean basically he was suggesting that there was because of the lack of resin-coated sand, that that is what caused him to shift to having to use more ceramic. But it's always been my impression that the E&P companies making that choice, not the pumping company.

Gary Kolstad

For sure the majority of the decisions made on which proppant they use are by the E&P absolutely.

John Daniel – Simmons & Company International

Yes. Okay. I just wanted to clarify that. And then on Falcon, given the confidence you guys have in the business, do you anticipate this segment will eclipse 10% of revs sometime this year?

Gary Kolstad

You know what, given the explosive growth in the ceramics business, I don’t see how you can catch it and then we throw another 250 million pounds starting December and then we throw another 250 million pounds. So, it’s going to have to – we have a lot of confidence in the growth, but that’s a tough badger [ph] to chase.

John Daniel – Simmons & Company International

Fair enough, all right. Thanks guys, good quarter.

Operator

(Operator instructions) And our next question comes from Brian Uhlmer from Pritchard Capital.

Brian Uhlmer – Pritchard Capital Partners

Hi good morning gentlemen.

Gary Kolstad

Good morning.

Brian Uhlmer – Pritchard Capital Partners

I had a couple questions for you really on your inventory levels. I am trying to understand first where your inventory levels stand right now. Do you have that number available?

Gary Kolstad

I think there will be some numbers in the Q, I don’t think we disclosed pounds or anything, but the Q will come out, and you will see dollar amounts I guess.

Ernesto Bautista

That’s scheduled to come out tomorrow.

Brian Uhlmer – Pritchard Capital Partners

Okay. Thanks for answering that. And secondly, I am just trying to understand why the incremental margins weren't higher on this volume of proppant sales and kind of what costs you book your profit into your inventory and why wouldn't a large incremental margin on such a large volume increase, such as fixed cost business?

Gary Kolstad

The margins of course remained very good and up from Q4, and the other thing I would add is that we have added in a revenue stream for a business compared to Q1 ’09 that today it has not approached the margins of the proppant business, and we are in growth mode on that business with Falcon Technologies. So, we think those two factors, we are actually very pleased with the margin increase from Q4 on the proppant business.

Brian Uhlmer – Pritchard Capital Partners

Okay. And then to follow along when you're talking about Falcon, trying to back out the revenues in those segments to get a better feel for what pricing was like or if pricing actually did increase quarter-over-quarter. Can you quantify that a little bit better please?

Gary Kolstad

Pricing did increase, and when I said, we probably would be up 5% or so by the end of H1 and I said the majority of that taken place in Q1 already. That kind of gives you an indication of what the price went up in Q1 versus Q4 ’09. When we look at the Falcon Technologies, I think we told you previously that we bought it for something less than one-time sales, and I would probably be more candid on that, it was less than $20 million in sales when be bought it. And so, if you just go along with what I am saying on a 20% growth, which we fully expect in 2010, we kind of characterize it as 20% plus growth for numerous years, it kind of gives you an impact of what Q1 probably had from Falcon.

Brian Uhlmer – Pritchard Capital Partners

Okay. And then the other business lines, I mean to back out the revenues to get price per pound, I am using about $5 million for the quarter and other revenues. Is that a fair number or am I overshooting it?

Gary Kolstad

I mean, you have probably done your math fairly well and I imagine it’s – my comments on Falcon kind of gives you that, you are in the ballpark range there, sure.

Brian Uhlmer – Pritchard Capital Partners

Okay. So, price was 2% to 3% quarter-on-quarter is a fair estimate?

Gary Kolstad

I am not going to help you anymore. Just keep in mind my comments about the fact that the majority of the 5% was probably captured in Q1.

Brian Uhlmer – Pritchard Capital Partners

Okay. And then, I guess, a final question along these lines is, and you are probably not going to answer this one either, is what kind of volumes are – you are saying that sales will probably match production for the next couple of quarters. Are you fully depleted out of your inventory of stock that is marketable at this point in time, or is there still some left over that we may see a little bit above production in Q2 as well?

Gary Kolstad

The equivalence, we kind of said 100 million a month, so 300 million is kind of a quarter-type production figure till we get Toomsboro Line 3 rolling. So, we sold 370 million, that means we probably took something around that out of inventory and that is a lot. So, I think when we make the comment that you should probably watch our productive capacity and that little caveat that’s put in there that we did up some planned maintenance switch, means about a loss of about 10 million pounds in Q2. I think that will guide you pretty good.

Brian Uhlmer – Pritchard Capital Partners

Okay. And final question, G&A run rate, is that a good run rate with the addition of new R&D and new technology?

Ernesto Bautista

Yes, I think as far as if we are talking sequential something to note is compared to Q4, Q1 did have or was impacted by certain Falcon-related costs along with both sales and franchise tax accruals that we booked during the quarter.

Brian Uhlmer – Pritchard Capital Partners

Okay. So, we may step that down just slightly for Q2?

Ernesto Bautista

Potentially.

Brian Uhlmer – Pritchard Capital Partners

Potentially? All right. Thanks Ernesto, Gary, appreciate it.

Gary Kolstad

Thanks.

Operator

And our final question comes from Roger Read from Natixis Bleichroeder.

Roger Read – Natixis Bleichroeder

Hi, good morning guys.

Gary Kolstad

Good morning.

Roger Read – Natixis Bleichroeder

And Ernesto, I had no idea you would do such high volumes from our last little update. I don’t want to play poker against you, that’s for sure.

Ernesto Bautista

Smart job.

Roger Read – Natixis Bleichroeder

Real quick question for you along those lines, and I understand you have got first Toomsboro 3 and then ultimately Toomsboro 4, but rather than sell such high volumes in one particular quarter, why not you know raise price a little bit more and let the market sort of sort itself out? Can you help me, Gary, a little bit with just the thinking on that? I mean, why not 335 million this quarter and 335 million next instead of 370 million in one and 300 million in the next?

Gary Kolstad

Absolutely. First of all, some commitments for Q1 take place in Q4, right.

Roger Read – Natixis Bleichroeder

Sure.

Gary Kolstad

And I remember some of you wondering why Q4 was down and we said we wouldn’t build or analyze that if I were you.

Roger Read – Natixis Bleichroeder

I am with you there.

Gary Kolstad

Yes, so some of these things take place way before this. Two, is the bird in the hand is better than any in the bush, and we like our cash upfront. So, we really like that. Third, very important is even though it’s starting to fade as a concern, but there’s not a lot of us that know what natural gas is going to do. So, we much rather take the sales upfront and once again, we are not talking about long time here, right. We are now seven months away from Line 3 being active. So, that just doesn’t factor into our thinking whatsoever. We look at the business long term, you know that. So, those things combined with that, we just don’t worry about selling it in and gaining a smidgen more of price on that volumes.

Roger Read – Natixis Bleichroeder

Okay. And then final question to you, Ernesto. I mean, I made the obvious assumption you had sold out of inventory, but then when I looked at sort of abbreviated balance sheet, it showed no real change in current assets. So, I would assume you had a fairly high ramp-up in accounts receivable and we will see that cash come through in the second quarter?

Ernesto Bautista

That’s exactly, that’s right. We generated, we did have – we did generate cash during the quarter.

Roger Read – Natixis Bleichroeder

No, no I saw that on the balance sheet, yes.

Ernesto Bautista

As well as the growth in receivable, that’s correct.

Roger Read – Natixis Bleichroeder

Okay, that’s it from me. Thank you.

Operator

And in showing no additional questions, I would like to turn the conference call back over to Mr. Kolstad for any closing remarks.

Gary Kolstad

Okay. Thanks everybody for joining us. Just I want to say a couple of closing points. We had a great quarter and we thank our employees and our customers for that. We continue to illustrate the value of conductivity and how our products improve, well production and recovery, I think that’s getting more apparent all the time. Industry-wise, we have mentioned that we are cautious on natural gas fundamentals in H2. Fortunately for us though, the oil demand and the oil reservoirs are going into are just demanding our products for the reasons I mentioned. We expect the demand for all of our products actually to be very high.

We are very pleased that both North American and International had great growth in the quarter, but we do say, I think we probably over-talked that point, but our sales volume for the next two quarters will be very similar to production capacity, and we are pleased and excited about the fact that Toomsboro Line 3 has moved up a month, once again that’s only seven months away. When we have 3 and 4 together, we are growing our production 40% in 20 months. So, that’s about 1.75 billion pounds, and we are excited about the growth aspects for Falcon Technologies as well. So, I hope the quarter showed you some of the potential coming down the road with CARBO and we are very pleased and glad you were able to join us today, and we will talk to you next quarter.

Operator

That concludes today’s conference call. We thank you for attending. You may now disconnect your telephone line.

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