Based in Frederick, Maryland, U.S. Silica Holdings (SLCA) scheduled a $201 million IPO with a market capitalization of $901 million at a price range mid-point of $17 for Wednesday, February 1, 2012.SLCA is one of eight IPOs scheduled for this week (see our IPO calendar).
SLCA provides for general commercial markets and for the oil/gas fracking market. The growth in the business has come from the fracking market, on which we have turned negative.
NEGATIVE ON FRACKING MARKET
News on January 23 and 24th
(1) "Natural gas, the worst-performing commodity this year, rebounded from a 10-year low in New York after Chesapeake Energy Corp. (CHK), the second-largest U.S. producer, said it will cut production and reduce spending." Natural Gas, Bloomberg, January 23
(2) "CHK said Monday it will cut spending on gas drilling by more than $2 billion this year and divert that money to chase more profitable oil, which is trading near $100 a barrel." Wall Street Journal, January 23
(3) Economic Tailwind: No Sign Of The Natural Gas Glut Ending Anytime Soon
"The Energy Information Administration notes that the working gas in storage is near a record high, and thanks to a warm winter it's not falling as fast as it usually does, meaning prices are likely to remain low." SeekingAlpha January 24
We believe SLCA is priced too high when much of the growth expectations rest on an expanding fracking market. We believe the stock may go up on the IPO but may not hold an increased priced if other companies follow CHK's lead in reducing fracking & drilling for gas.
SLCA is the second largest domestic producer of commercial silica, a specialized mineral that is a critical input into a variety of attractive end markets.
In SLCA's largest end market, oil and gas proppants, its "frac sand" is used to stimulate and maintain the flow of hydrocarbons in horizontally drilled oil and natural gas wells.
This segment of the business is experiencing rapid growth due to recent technological advances in the hydraulic fracturing process, which have made the extraction of large volumes of oil and natural gas from U.S. shale formations economically feasible.
SLCA's commercial silica is also used as an economically irreplaceable raw material in a wide range of industrial applications, including glassmaking and chemical manufacturing. Additionally, in recent years a number of attractive new end markets have developed for SLCA's high-margin, performance silica products, including solar panels, specialty coatings, wind turbines, polymer additives and geothermal energy systems.
SLCA produces a wide range of frac sand sizes and are one of the few commercial silica producers capable of rail delivery of large quantities of API grade frac sand to each of the major U.S. shale basins.
SLCA believes that due to a combination of these favorable attributes and robust drilling activity in the oil and natural gas industry, it has become a preferred commercial silica supplier to customers in the oil and gas proppants end market and, consequently, are experiencing high demand for frac sand.
To meet this demand, SLCA is investing significant resources to increase proppant production, including expanding frac sand capabilities by approximately 1.2 million tons, or approximately 75% above tons sold in 2010, and constructing a new facility to produce resin-coated sand, which significantly expands SLCA's addressable proppant market.
Supplies of commercial silica have failed to keep pace with demand for approximately the past 18 months. During the economic downturn of 2008 and 2009, demand for commercial silica from customers in various industrial and specialty products end markets decreased.
As a result, there was no significant expansion of domestic commercial silica supply. This, combined with the continued growth in demand for frac sand and the rebound in industrial and specialty products end markets in 2010, has created a supply-demand disparity.
SLCA believes that if the present level of demand growth continues for the foreseeable future, a significant expansion in the supply of commercial silica will be needed to balance the market. SLCA and other large producers, have implemented or announced some supply expansions, and other smaller producers have made similar announcements. However, there are several key constraints to increasing production on an industry-wide basis, including:
Historically, commercial silica has been characterized by regional markets created by the high weight-to-value ratio of silica. The increased demand for commercial silica from customers in both the oil and gas proppants end market and industrial and specialty products end markets has resulted in favorable pricing trends in both of our operating segments.
If demand for frac sand continues to rise, and if the general economic recovery continues to result in increased demand from SLCA customers in industrial and specialty products end markets, SLCA expects the prices that its products demand will continue to increase. Between 2000 and 2009, commercial silica prices increased at an average annual rate of 9.0%.
WE DON"T BELIEVE SLCA'S DEMAND FORECASTS
See 'negative on fracking market' above
According to a Freedonia report dated April 2011, demand for all proppants is projected to increase approximately 16% per year to $5.1 billion in 2015, and, more specifically, demand for frac sand and resin-coated sand in the United States and Canada is projected to increase 15% per year to $1.9 billion in 2015.
SLCA's 13 geographically dispersed facilities control 283 million tons of reserves, including API size frac sand and large quantities of silica with distinct characteristics, giving SLCA the ability to sell over 200 products to over 1,400 customers.
SLCA's large-scale production capabilities and long reserve life make us a preferred commercial silica supplier to customers. A consistent, reliable supply of large quantities of silica gives SLCA customers the security to customize their production processes around SLCA's commercial silica.
The strategic location of SLCA's facilities and its logistics capabilities enable SLCA to enjoy high customer retention and a larger addressable market.
SLCA is currently executing several initiatives to increase frac sand production capacity and augment its proppant product portfolio. At the Ottawa, Illinois facility, SLCA recently implemented operating improvements and installed a new dryer with six mineral separators to increase our annual frac sand production capacity by 900,000 tons.
At SLCA's Rockwood, Michigan facility, the company recently added 250,000 tons of annual frac sand production capacity by installing an entirely new processing circuit to run on a continuous basis alongside existing state-of-the-art low-iron silica circuit. These two projects were completed during the fourth quarter of 2011. SLCA is also in the initial stages of building a new facility to produce resin-coated sand that will be designed to coat up to 400 million pounds annually, which is scheduled for completion and start-up in 2013.
As of September 30, 2011, SLCA employed a workforce of 685
SLCA competes with large, national producers such as Unimin Corporation, Fairmount Minerals, Ltd., Badger Mining Corporation and Carmeuse Industrial Sands.
CUSTOMERS & AGREEMENTS
A large portion of sales is generated by the top ten customers.
During 2010, SLCA's top ten customers represented 45% of sales from continuing operations, with no single customer accounting for more than 9%. SLCA has long-term, competitively-bid fixed price supply agreements with three of these customers in the oil and gas proppants end market, including thet top customer, that have initial terms expiring between 2014 and 2016.
SLCA does not have long-term contracts in place with the remaining top seven customers from 2010. In the fourth quarter of 2011, SLCA signed six additional shorter term supply agreements with other customers in the oil and gas proppants end market.
USE OF PROCEEDS
SLCA expects to net $42.5 million from its IPO from sale of 8.8 million shares. The IPO is expected to include 2.9 million shares from selling shareholders
SLCA intends to make an $8.0 million payment to terminate the Advisory Agreement entered into in connection with the Golden Gate (equity sponsor) Acquisition and to provide $34.5 million to fund future capital expenditures for the business, including the construction of a new resin-coating facility.