Smart Sand, Inc. — Q3 2016 Form 10-Q
Reporting period: Three and nine months ended September 30, 2016. Amounts are in millions of dollars unless otherwise indicated. Smart Sand produces Northern White frac sand, primarily from its Oakdale, Wisconsin mine and processing facility, with annual capacity of approximately 3.3 million tons.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $10.9 | $9.0 | $29.8 | $32.5 |
| Gross profit / margin | $5.0 / 45.7% | $4.2 / 46.1% | $12.0 / 40.2% | $15.4 / 47.3% |
| Operating income | $2.5 | $1.8 | $5.1 | $7.5 |
| Net income (loss) | $(0.1) | $1.8 | $(2.1) | $2.7 |
| Adjusted EBITDA (non-GAAP) | $4.5 | $3.5 | $11.0 | $12.9 |
Q3 sand sales were approximately 229,600 tons, versus 196,700 tons; average selling price was $40.66 per ton, versus $41.49. Nine-month sales were approximately 552,000 tons, versus 643,400 tons; average price was $39.87 per ton, versus $43.08. Q3 revenue included $5.0 million of reservation charges. Nine-month revenue included $10.5 million of reservation charges and $3.0 million of contractual shortfall revenue.
At September 30, cash was $0.7 million; current assets were $11.0 million and current liabilities $53.6 million, a $42.6 million working-capital deficit. The deficit included $39.7 million of redeemable Series A preferred stock. Revolver borrowings were $56.5 million before a $0.7 million debt discount, with $13.9 million undrawn availability; weighted-average borrowing rate was approximately 4.4%. Equipment financing and notes payable totaled about $2.0 million, including current portions. Nine-month operating cash flow was $8.1 million, capital spending was $2.1 million, and financing cash outflow was $9.3 million. Ending cash declined from $3.9 million at year-end 2015.
Changes versus the prior comparable period
- Q3 revenue rose 21% as higher sand volumes and railcar rental revenue more than offset lower sand pricing. Gross profit increased, but net income turned to a small loss, largely reflecting higher preferred-stock and other interest expense.
- Nine-month revenue fell 8%, gross profit fell 22%, and the company moved from net income to a net loss. Lower volumes and selling prices amid reduced oil and gas activity drove the decline; higher depreciation and depletion also raised cost per ton.
- Nine-month operating cash flow fell from $17.7 million to $8.1 million. Investing outflow declined substantially from $26.9 million to $2.0 million as capital expenditures decreased.
- Management reported that customer contracts were renegotiated in late 2015 and 2016, reducing certain prices and adjusting minimum volumes and contract terms. Q3 production costs per ton improved to $11.43 from $12.64, while nine-month production costs per ton increased to $15.00 from $13.25.
Outlook, material events and risks
- Management said commodity prices had stabilized by mid-2016, drilling activity improved in Q3, and it expected market conditions to improve further in Q4 and 2017. This is qualitative commentary, not quantified guidance. The company expected $1–$2 million of Q4 2016 expansion capital spending, funded from operating cash flow.
- After quarter-end, the November 2016 IPO generated approximately $121.0 million net proceeds, and the underwriters’ additional company share purchase generated approximately $9.1 million net. The company used proceeds to redeem all Series A preferred stock for approximately $40.3 million and repay and terminate the prior revolver. A 2,200-for-1 stock split also took effect November 9.
- In December 2016, the company entered a new $45 million, three-year secured revolver; no amounts were drawn as of December 15. It includes leverage and fixed-charge coverage covenants. A new multi-year take-or-pay product agreement with Rice Drilling was expected to begin in January 2017.
- A customer-affiliate bankruptcy dispute over a $5.0 million prepayment was settled favorably in November; the amount was recognized as revenue. The company received an approximately $12 million unsecured bankruptcy claim, sold in December for approximately $6.6 million, to be recognized in Q4.
- Customer concentration is significant: three customers generated 97% of Q3 revenue, and four generated 97% of nine-month revenue. The company also relies primarily on one third-party rail provider. Risks include customer credit and contract renewals, frac-sand demand and commodity-linked activity, weather-related production seasonality, environmental and mine-safety regulation, and operating-lease commitments.
- Operating lease commitments totaled approximately $22.5 million for 2017–2021, plus $0.8 million thereafter. Management stated disclosure controls were effective and reported no material change in internal control over financial reporting.
Investor verification points
- Review the IPO prospectus and subsequent filings to confirm final proceeds, uses of proceeds, dilution and the impact of redeeming preferred stock and repaying the prior revolver.
- Track realized sand prices, tonnage, contract minimums, reservation and shortfall revenue, and customer concentration; these affect the sustainability and timing of reported revenue.
- Confirm Q4 recognition and cash realization of the bankruptcy claim sale, and distinguish those unusual proceeds from recurring operating performance.
- Monitor utilization and covenant headroom under the new revolver, post-IPO liquidity, capital spending, and large operating-lease obligations.
- Assess customer credit, rail logistics dependence, and whether the anticipated market recovery and Rice Drilling agreement translate into sustained volumes and margins.