Solaris Oilfield Infrastructure In Depressed Sector

Summary

  • While Solaris Oilfield Infrastructure has good innovations and process solutions, its risk as a sand-handler for oil and gas producers is large.
  • With drilling budgets cut, so too are sand budgets, and so too are budgets for the sand-handling equipment Solaris offers.
  • The company pays a 3.6% dividend, unusual for a small oilfield service company. It also has only a 23% liability-to-asset ratio.
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Solaris Oilfield Infrastructure (NYSE:SOI) has mixed appeal.

On one hand, it is stuck in the heavily-bleeding, declining sand/proppant sector — even though Solaris only handles sand at the well-site rather than developing sand mines.

Additionally, non-public Class B shareholders still own about a third of the company.

On the other hand, dividend-seeking investors may like Solaris’ 3.6% yield — unusual in oilfield services. Moreover, as a small, focused company with little debt, several innovations, and enough cash ($51 million, 10% of the asset base), Solaris could easily become an acquisition target.

Company Description

Solaris is headquartered in Houston, Texas, and has 380 full-time employees. The company provides management systems for unloading, storing, and delivering chemicals and proppant (sand mainly) to well sites in all of the major U.S. unconventional basins: Permian, Eagle Ford, STACK/SCOOP, Marcellus, Utica, Haynesville, Rockies, and Bakken. Founded in 2014, its Class A shares went public in 2017. Its Class B shares are not publicly available.

With a November 18, 2019 closing price of $10.97/share, market capitalization is $520 million.

Oil and Gas Prices

The November 18, 2019 closing West Texas Intermediate (WTI) oil price was $56.89/barrel. Natural gas futures price closed on November 18, 2019 at $2.53/million British Thermal Units (MMBTUs).

West Texas Intermediate Crude Oil, $/bbl

Credit: macrotrends.net

Third Quarter 2019 Results

In the third quarter of 2019, Solaris had revenue of $59.6 million, net income of $19.1 million, and net income attributable to Solaris after non-controlling interests of $11.4 million or $0.36 per Class A share. This is down from the same quarter a year ago, when net income per Class A common was $0.49.

Nine-month 2019 income attributable to Solaris was $37 million, or $1.33/share of Class A common.

Competitors

Solaris’ closest competitor is Hi-Crush (HCR) with its Pronghorn box subsidiary, NexStage silos and PropDispatch software. Other competitors are Proppant Express Solutions (private) and U.S. Silica (SLCA), both with sandbox handling and storage systems. Indeed, in September 2019, the U.S. Patent and Trademark Office invalidated U.S. Silica’s patent claims on its box product.

Solaris estimates it has a one-third share of the U.S. wellsite proppant storage market.

Unlike U.S. Silica or other sand companies such as Hi-Crush, Smart Sand (SND), or Covia (CVIA), Solaris does not own sand mines and so is not directly exposed to fluctuations in sand prices.

Bigger competitors like Schlumberger (SLB), Halliburton (HAL), Baker Hughes (BKR), Patterson-UTI (PTEN), Nabors (NBR), and National Oilwell Varco (NOV) offer a large spectrum of oilfield services and may be of more interest to producers who would prefer not to coordinate numerous vendors, particularly since Solaris does not own sand mines.

Other competitors in the general oilfield services sector have been severely financially challenged by the drilling downturn. This includes many of Solaris’ service and logistics customers.

Learn more about Mobile Proppant Management System

Credit: solarisoilfield.com

Operations, Budget, and Customers

During the third quarter of 2019, 115 of Solaris’ mobile proppant systems were completely utilized (out of a total fleet of 166 systems), down slightly from the second quarter of 2019 and from the third quarter of 2018.

Like others, Solaris has reined in capital spending. In 2019, it expects to spend $40 million or less compared to an original plan of $40-$50 million.

The company’s customers include a wide range of producers from Exxon Mobil (XOM) to Southwestern Energy (SWN) as well as sand and service companies from Schlumberger to private Atlas Sand.

Governance

As of October 4, 2019, Institutional Shareholder Services (ISS) ranked Solaris’ overall governance as 9, with sub-scores of audit (5), board (9), shareholder rights (8), and compensation (7). On the ISS scale, 1 represents lower governance risk and 10 represents higher governance risk, so 9 represents a weak score/high governance risk.

During startup, Solaris was backed by private equity firm Yorktown. At its initial public offering in May 2017, a large part of the ownership was retained by Yorktown and by the company’s founder in the form of Class B shares, which have voting rights equal to one share. Class B ownership now represents 33% of Solaris’ equity.

Shorts were 14.5% of floated Class A shares at October 30, 2019.

The company’s beta is 1.71, representing much higher volatility than the overall market but in line with its small size and position in a commodity sector.

Financial and Stock Highlights

Solaris’ market capitalization is $520 million at a November 18, 2019 stock closing price of $10.97/share with a 52-week range of $10.24-$19.31/share. The closing price was 57% of the 52-week high and 70% of the one-year target price of $15.65.

The average of analysts’ estimated 2019 earnings per share (EPS) is $1.46 and $1.20 for 2020 EPS, giving a near-current price/earnings ratio of 7.5 and a forward price/earnings ratio of 9.1. The company’s trailing twelve months’ return on assets is 15% and return on equity is 26%.

Trailing twelve months’ operating cash flow was $147 million and levered cash flow was $35 million.

At September 30, 2019, the company had $114.6 million in liabilities and $506.1 million in assets giving Solaris a very flexible liability-to-asset ratio of 23%.

ChartData by YCharts

The company’s ratio of enterprise value to EBITDA is 3.4, suggesting a bargain; book value per share of $8.20 is less than the market price, also a favorable indication.

Solaris pays a $0.40/share dividend for a 3.6% yield.

Mean analyst rating from eleven analysts is a 1.8, or “buy,” leaning toward “strong buy."

The eight largest institutional holders on September 29, 2019 were: Fidelity/FMR at 9.5%, BlackRock at 6.9%, Vanguard at 5.0%, Janus Henderson at 4.6%, Adage Capital Partners at 4.5%, Russell Investment Group at 3.9%, Segall Bryant & Hamill at 3.8%, and Capital World Investors at 3.7%. Some institutional fund holdings represent index fund investments that match the overall market.

Positive and Negative Risks

The biggest factor in the oil and gas market at present, after prices, is Saudi Aramco’s (ARMCO) initial public offering. While this $1.5+ trillion valuation does not change oil supply, it sucks away the market's appetite for energy stocks.

Solaris positions itself as a tech company, but similar to the way WeWork's (WE) business is more real estate than tech, in reality, Solaris depends on leasing its equipment within the volatile commodity markets of sand and oil.

Also of concern, the company has weak governance ratings.

Solaris' major exposure is as a second or even third derivative of U.S. and global oil price risk. Investors demanded more returns to shareholders. Oil and gas producers responded, and continue to do so, by substantially cutting drilling budgets. Along with a move towards up-spacing (fewer wells per acre), smaller budgets means much less demand for sand (second derivative) and so less need for sand-handling equipment (third derivative.)

Recommendations for Solaris Oilfield Infrastructure

Due to the poor current and expected future sand and oilfield services markets, Solaris is not recommended to growth-seeking investors. This is also evidenced by the drop in analysts’ average expected EPS for 2020.

Additionally, the sizable voting clout of the Class B shareholders means Class A public investors may have conflicts, or at a minimum less-than-typical voice, in company operations.

Dividend-seeking investors may be attracted to the company’s 3.6% dividend and low debt levels.

Despite the short interest, the company may also appeal to those who think it could become an acquisition target for a larger company such as Baker Hughes, Halliburton, or Schlumberger.

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This article was written by

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