Heckmann Q4 And 2011 Year-End Earnings Report; More Than Meets The Eye

| About: NUVERRA ENVRNMNTL (NESC)

Heckmann Corp. (HEK) reported fourth-quarter and year-end 2011 earnings on March 8, 2012. From the press release:

For 2011, the Company reported record revenues of $156.8 million, adjusted EBITDA of $28.6 million and a net loss from continuing operations of $(0.1) million. Adjusted EBITDA from continuing operations increased to $28.6 million for 2011, compared with $1.7 million for 2010.

The company took numerous charges in the fourth quarter to clean up some outstanding issues so that 2012 could start out with a clean slate, these included:

Nonrecurring losses and expenses totaling $12.3 million, including: approximately $4.1 million related to the impact of the significant slowdown in the Haynesville Shale area including the relocation of personnel, equipment and temporary costs related to the change in business conditions in the dry gas industry; $2.5 million for additions to the bad debt reserve in anticipation of collection issues related to the overall industry slowdown; $2.1 million for startup and commissioning of the Company's fiberglass pipeline; $1.4 million for integration and transaction-related costs, including the installation of a financial and accounting system, implementation of a comprehensive safety and compliance program, consolidation of branch operations and liquefied natural gas ("LNG") fleet expansion; $1.1 million for final legal costs related to the divestiture of China Water & Drinks, Inc.; and $1.1 million related to the start-up of new significant long-term contracts, primarily in the Marcellus Shale area.

The market did not like these numbers as the stock has dropped from a high of $7.05 on December 20, 2012 to a recent 52-week low of $4.33 today. With some recent downgrades and the uncertainty around the announced TFI acquisition there is a real possibility the stock could trade even lower. However a deeper look at the business gives me confidence that the long-term picture for Heckmann Corp. is still on track. The Heckmann team, the same one that built US Filter into a multibillion dollar company, knows how to build a business and this takes more than a year or two. The street however does not have patience and the stock has been taken to the woodshed.

The positives:

  • In the last 12 months Heckmann Corp. has increased revenue tenfold.
  • Recognized the customer shift from dry gas production to oil and nat gas liquids by shifting assets out of the Haynesville and into the Eagleford, Marcellus, and Utica shales.
  • In the fourth quarter of 2011, the company's produced water pipeline averaged throughput of 40,000 barrels per day, compared with 30,000 barrels per day in the third quarter of 2011.
  • In a little more than a year the company has acquired and put into service the following assets; 25 salt water disposal wells with a permitted capacity of approximately 400,000 barrels per day, a fleet of approximately 600 trucks, 450 trailers and 1100 frac tanks, taken delivery of 90 LNG-powered trucks and expects to take delivery of a total of 200 LNG vehicles, owns approximately 200 miles of portable poly and aluminum pipe and associated pumps.
  • As of December 31, 2011, Heckmann's domestic headcount increased to approximately 1,200 employees from less than 30 employees as of September 30, 2010.
  • The company completed the acquisition of eight smaller companies as it continued "rolling up" smaller undercapitalized competitors.

In my view this is a real business that has shown tremendous growth in the last year. The management said on the call that there was cost and time involved consolidating and integrating the acquisitions. As an example, some of the acquired companies were using simplistic accounting systems like Quickbooks to do their accounting. These issues have been resolved and this is why the company took some of the charges it did in the fourth quarter. The company also incurred costs redeploying assets to other areas outside the Haynesville shale and setting aside funds to cover doubtful receivables from smaller trucking firms that use their disposal wells.

The negatives:

  • Natural gas prices at generational lows and shutting down of drilling in the Haynesville shale.
  • Perceived mixed message with the TFI acquisition.
  • Missed on revenue and earnings.

The Haynesville shale is a predominately dry gas area. With the drop in natural gas prices drilling has decreased and consequently the amount of fracs has decreased. However the company still is operating in the area and is disposing of produced water (water from wells that are on production) and although it is seeing less activity it is still participating in Haynesville frac jobs. One thing about these low natural gas prices, they will eventually recover as the cure for low prices is low prices. The price of gas is now below the cost of production for many companies and that is why we have seen the number of rigs drilling for natural gas drop to 670 rigs from 882 this time last year. In addition the average Haynesville gas well depletes very quickly, sometimes by as much as 80% in the first year. Conversely rigs drilling for oil have increased to 1296 from 827 last year at this time. Like the E&P companies that Heckmann services the company focus is moving assets to areas where oil and natural gas liquids predominate.

The company is projecting top line revenue growth in 2012 to a range of between $400.0 million and $420.0 million, and pro-forma adjusted EBITDA of between $95.0 million and $105.0 million. This includes the TFI acquisition, which is accretive from day one and should close by the end of the second quarter 2012.

Thermo Fluids Inc acquisition

I think the stock got knocked down a bit on this announcement also as people assumed that this is a diversion from the oilfield water supply/disposal business. However this is also a misconception. The CEO has always said that Heckmann Corp. is a total environmental services company and not an exclusive oilfield services business. So what does TFI do?

TFI is a route-based environmental services and waste recycling solutions company that focuses primarily on the collection and recycling of used motor oil ("UMO"). TFI is the largest seller of commercial fuel oil from recovered UMO in the Western United States.

Taken in the context of Heckmann being a total environmental solutions company the acquisition logic begins to become clear. The company said the following in its press release announcing the acquisition:

"Our focus to-date has been on total water and wastewater solutions for the shale oil and gas industry. TFI's business expands our strategy to provide total environmental services to our customers," said Richard J. Heckmann, Chairman and Chief Executive Officer of Heckmann Corporation. "This acquisition diversifies our revenue stream and extends our oil industry offering to include services for virgin and reprocessed oil. Similar to Heckmann Water Resources' (HWR) comprehensive water services, TFI acts as an integrated single solutions provider for a number of environmental services, but primarily related to oil collection, recycling and resale. This is a highly fragmented and regulated industry with limited competition for complete service providers like TFI."

Heckmann executives have experience with this type of business. In fact the current CFO has used oil business experience and the current COO of Heckmann ran a similar business at US Filter that was spun off when Siemens bought US Filter. TFI predominately operates in the western U.S. and on the call it was stated that the industry is fragmented and ripe for a roll-up strategy.

In conclusion, Heckmann Corp. is expanding rapidly as the business is being built out. The near tenfold increase in revenue is testament to this fact. With oil prices above $100 per barrel there is a drilling and fracking frenzy taking place and Heckmann has a necessary service and is a leader in the disposal of one of the main waste streams associated with this boom. When building a new business and experiencing rapid growth there will be some growing pains and this was experienced by the company and in my view the management has dealt with the rapid growth very well. With the TFI acquisition the company is set up for further rapid growth in 2012 and beyond.

Disclosure: I am long HEK.