U.S. Silica Holdings, Inc.

11:03: US Silica Holdings, Inc. (NYSE:SLCA) Q3 2012 Earnings Call November 2, 2012 11:00 am ET

Donald A. Merril – Vice President of Finance Bryan A.

Shinn – President and Chief Executive Officer William White – Chief Financial Officer

Ben Swanley – Morgan Stanley Smith Barney Doug Garber – Dahlman Rose & Co. Douglas Becker – Bank of America Merrill Lynch Bradley Handler – Jefferies & Co., Inc.

Travis Z. Bartlett - Simmons & Co.

International Thomas Dillon – William Blair & Company

With that, I will turn the call over to U.S. Silica.

With that, I will turn the call over to U.S. Silica.

Additionally, we may refer to the non-GAAP measures of adjusted EBITDA, and segment contribution margin during this call. Please refer to the press release, or our public filings for a full reconciliation of adjusted EBITDA to net income and definition of segment contribution margin.

We issued a press release yesterday evening and expect to file a quarterly report on Form 10-Q with the Securities Exchange Commission later today.

Specifically, on a year-over-year basis, volume increased by 19% and revenue by 58%. On a sequential basis, volume rose 6% and revenue 11%.

Adjusted EBITDA of $37.5 million increased 57% year-over-year and 2% sequentially.

The segment continues to provide consistent, reliable performance and excellent cash flow. In Q3 contribution margin was up sequentially about 1% due to strong demand in the glass market and seasonality.

Additionally, we continue to see increasing demand for our specialty products, serving the renewable energy, foundry, and chemical markets. We also believe that our ISP business has further room for growth in the near-term as the housing market continues to recover.

One item to note our oil and gas segment contribution margin grew a bit slower than revenue and volume for the following three reasons. First, we encourage some one-time cost associated with meeting stronger than anticipated customer demand during a planned maintenance outage on one of four dryers at our Ottawa plant.

These costs will also impact the first half of the fourth quarter, but will not recur after that. Second, we experienced a mid single-digit percentage spot price reduction during the quarter.

And third, we fulfilled the surging demand for a finest product rate adding incremental volume and increasing overall profitability, but at a lower margin.

Further, permitting is becoming much more complex and projects by new entrance are facing increased community opposition. We believe that new entrance will struggle in the coming years due to lengthening, construction timelines, higher cost structures, limited logistics from single mine operations and increasingly demanding customers.

We recognize that our strong year-to-date and Q3 results appear out of sink with much of the North American service industry.

Further, permitting is becoming much more complex and projects by new entrance are facing increased community opposition. We believe that new entrance will struggle in the coming years due to lengthening, construction timelines, higher cost structures, limited logistics from single mine operations and increasingly demanding customers.

We recognize that our strong year-to-date and Q3 results appear out of sink with much of the North American service industry.

Second, the oil field service providers are in a position to streamline and limit their sand supply base to only the largest and most logistically capable providers, those with multi-rail, multi-basin and multi-plant capabilities all of which advantages U.S. Silica.

We expect to see this trend accelerate in the next three years especially these contracts with smaller sand producers expire. And we continue to add new capacity.

Third, we believe that proppants usage per rig continues to increase. Drilling rig and pressure pumping equipment are getting more efficient and while rig count and horsepower utilization may have declined.

We believe that proppants usage has continued to grow due to more wells drilled per rig and a longer average lateral length per well, either technology driven efficiency improvements and we expect proppants demand to continue to grow at rate higher than the rest of the industry. And finally, Northern White raw sand is becoming the proppants of choice from a performance and economic standpoint.

In terms of performance we believe that non-API proppants producers will continue to struggle to find customers to buy their products. In terms of economics we believe that raw sand will continue to gain market share and expand its dominant position as the proppants of choice.

Second, the oil field service providers are in a position to streamline and limit their sand supply base to only the largest and most logistically capable providers, those with multi-rail, multi-basin and multi-plant capabilities all of which advantages U.S. Silica.

We expect to see this trend accelerate in the next three years especially these contracts with smaller sand producers expire. And we continue to add new capacity.

Third, we believe that proppants usage per rig continues to increase. Drilling rig and pressure pumping equipment are getting more efficient and while rig count and horsepower utilization may have declined.

We believe that proppants usage has continued to grow due to more wells drilled per rig and a longer average lateral length per well, either technology driven efficiency improvements and we expect proppants demand to continue to grow at rate higher than the rest of the industry. And finally, Northern White raw sand is becoming the proppants of choice from a performance and economic standpoint.

In terms of performance we believe that non-API proppants producers will continue to struggle to find customers to buy their products. In terms of economics we believe that raw sand will continue to gain market share and expand its dominant position as the proppants of choice.

Second, the oil field service providers are in a position to streamline and limit their sand supply base to only the largest and most logistically capable providers, those with multi-rail, multi-basin and multi-plant capabilities all of which advantages U.S. Silica.

We expect to see this trend accelerate in the next three years especially these contracts with smaller sand producers expire. And we continue to add new capacity.

Third, we believe that proppants usage per rig continues to increase. Drilling rig and pressure pumping equipment are getting more efficient and while rig count and horsepower utilization may have declined.

We believe that proppants usage has continued to grow due to more wells drilled per rig and a longer average lateral length per well, either technology driven efficiency improvements and we expect proppants demand to continue to grow at rate higher than the rest of the industry. And finally, Northern White raw sand is becoming the proppants of choice from a performance and economic standpoint.

In terms of performance we believe that non-API proppants producers will continue to struggle to find customers to buy their products. In terms of economics we believe that raw sand will continue to gain market share and expand its dominant position as the proppants of choice.

Second, the oil field service providers are in a position to streamline and limit their sand supply base to only the largest and most logistically capable providers, those with multi-rail, multi-basin and multi-plant capabilities all of which advantages U.S. Silica.

We expect to see this trend accelerate in the next three years especially these contracts with smaller sand producers expire. And we continue to add new capacity.

Third, we believe that proppants usage per rig continues to increase. Drilling rig and pressure pumping equipment are getting more efficient and while rig count and horsepower utilization may have declined.

We believe that proppants usage has continued to grow due to more wells drilled per rig and a longer average lateral length per well, either technology driven efficiency improvements and we expect proppants demand to continue to grow at rate higher than the rest of the industry. And finally, Northern White raw sand is becoming the proppants of choice from a performance and economic standpoint.

In terms of performance we believe that non-API proppants producers will continue to struggle to find customers to buy their products. In terms of economics we believe that raw sand will continue to gain market share and expand its dominant position as the proppants of choice.

However, as we stated on previous calls we continue to believe that we can build a long-term profitable position in the market based on two factors, first we produce the highest quality raw sand for substrate, which is the single most important factor in the performance of resin-coated sand. We also had our choice of raw sand sizes to coat allowing for quick response to market needs.

We also made significant progress with the Greenfield raw sand plant that were constructing in Sparta, Wisconsin. This project is on schedule for second quarter of 2013 start up.

Initial production capacity as we stated previously, we will be between 750,000 to 850,000 tons of largely coarse sand, the majority of which we expect to ship into the Bakken. We anticipate that a limited amount of sand may be produced during the first quarter of 2013, which should not have a material impact on our total volumes for the year.

As we announced previously, we are also building a 500,000 ton per year Eagle Ford transloading facility in San Antonio and partnership with the BNSF, which will be capable of receiving those unit train shipments.

Now, I will turn the call over to our Chief Financial Officer, Bill White to discuss our financial results in more detail and to update you on our guidance. Bill?

Now, I will turn the call over to our Chief Financial Officer, Bill White to discuss our financial results in more detail and to update you on our guidance. Bill?

Thank you Bryan and good morning everyone. As Bryan indicated, the third quarter of 2012 was another solid quarter of earnings for U.S.

Silica. There were 1.9 million tons sold in the third quarter compared to 1.6 million tons sold in the third quarter of 2011 and 1.8 million tons sold in the second quarter of 2012.

Our increase from the second quarter to the third quarter was driven by strong demand for all of our products, especially in the Marcellus, Eagle Ford, Permian and Bakken shale plays. Revenues for the third quarter of 2012 were $115.9 million compared to $73.5 million for the same period in 2011 and $104.6 million for the second quarter of 2012.

Nearly all of the revenue increase came from the oil and gas proppants segment. On a quarter-over-quarter basis, revenue for the oil and gas segment grew 18.4% to $64.5 million and revenue for the ISP segment grew 2.5% to $51.3 million during the third quarter.

Adjusted EBITDA from the third quarter was $37.5 million, net income was $18.8 million, and earnings per share were $0.36, compared to adjusted EBITDA of $23.2 million, net income of $10.3 million, and earnings per share of $0.21 for the third quarter of 2011. Volumes for the Oil and Gas segment for the third quarter of 2012 were 769,000 tons and a contribution margin for the Oil and Gas segment was $34.2 million, as compared to 459,000 tons and a contribution margin of $15.6 million for the third quarter of 2011.

Volume for the ISP segment was 1.1 million tons and a contribution margin for the ISP segment was $14.2 million for the third quarter of 2012, as compared to 1.1 million tons and a contribution margin of $13.7 million for the third quarter of 2011. SG&A expense was $10.1 million for the third quarter of 2012, as compared to $5.2 million for the same period in 2011.

The increase in SG&A was driven primarily by continued additional staffing to support the growth in that Oil and Gas segment and to meet additional administrative requirements of a public company. Interest expense was $3.3 million as compared to $3.8 million in the third quarter of 2011.

The decline in interest expense year-over-year was due to the conversion to equity of a note due to our previous owner immediately prior to our IPL earlier this year Turning to cash flow and liquidity, cash and cash equivalents were $93 million as of September 30, 2012, as compared to $102.6 million as of June 30, 2012. The decrease was the result of our increased capital spending rate and there were no significant unusual items affecting cash flow during the quarter.

U.S. Silica incurred capital expenditures of $36 million in the third quarter of 2012 versus $24 million in the second quarter of 2012.

The majority of the capital will spend on the construction of the Rochelle as part of plan. At this point, we are unsure of the effect that the recent East Coast two months will have on our Q4 performance as completion activity in the Marcellus maybe impacted.

Assuming minimal impact, we are providing fourth quarter guidance of $110 million in revenue with adjusted EBITDA of $33 million to $37 million. Last quarter we guided you to the lower-end of the range for 2012.

We are now pleased to say that, we expect to exceed that guidance and be in the range of $423 million to $433 million for revenues, $144 million to $148 million for adjusted EBITDA, and $98 million to $108 million of capital expenditures.

In the second quarter, oil and gas industry experience an abrupt tightening of CapEx budgets due to a sudden drop in oil prices causing service provider to be cautious in their purchase of the sand. We responded by aggressively working with our customers to supply sand from our expanded in-basin distribution network, which enable us to deliver high end of the range earnings versus guidance.

Lastly we have a low production cost structure, which we believe is at the bottom of the industry curve. This cost advantage is especially pronounced when compared to a number of new entrants into our industry who cut corners in their rupture market.

Hey, good morning and congratulations on a fantastic quarter.

Thank you Ben, how are you doing?

I think – I just wanted to follow-up on some of your guidance comments there, some quick math to just that you are raising fourth quarter revenue, but maybe lowering fourth quarter EBITDA guidance just a little bit compared to where we were three months ago. Can you give us a little bit more detail around that, I mean is this a timing issue of deliveries from 4Q actually hitting 3Q or what exactly is, how are you thinking about it?

Okay, that makes sense. And I think you mentioned about three reasons why the proxy and contribution margin came down a little bit in the quarter sequentially.

Can you just quantify for us about how much of a decline comes from each of the different items?

And I just sneak one more and if I can on the topic of spot pricing? Can you give us, can you quantify for us a little bit, I think you did it last quarter; the average spot pricing this quarter versus last quarter, and maybe the direction through the quarter?

Okay, so it sounds like maybe a little bit lower, but not really moving directionally through the quarter. Just kind of choppy?

Yeah, it was choppy through the quarter and it is a few percent lower, but nothing like the move that we saw coming off really high prices. If you remember Q1 had really high spot prices, and we saw that the steep decline in the Q2.

Perfect, thank you so much and congrats again on a great quarter.

Thanks Ben.

Good morning guys.

Hi Doug.

Hey, Doug.

Can you give us an update on your effort to sell more in the pace as apposed FOB mine just kind of throughout the year, how much you sold kind of FOB basin and where that is now beginning of the year and where do you expect it by the end of the year.

In terms of quantifying that, I mean of your I guess $146 million tick the midpoint of the adjusted EBITDA range. How much of that would you say is from adding this logistics portion if you will to go into that sort of detail.

And just want to clarify one of the comment you made, you said our resin-coated sand is a sub $400 a ton, is that FOB mine, or is that delivered, just trying to get a sense of what that at a point?

Okay.

Deliver to transload.

Okay, thanks.

You are talking about oil and gas, Doug or…

Oil and gas, yeah.

Okay. And since you mentioned that just, how about an ISP does seem to be a seasonal hiccup there as well?

Yeah, so fourth quarter is usually the slower quarter for ISP. In particular some of the industry like glass and the foundry industries have histories of taking extended holiday shutdowns in December and so we would – we typically see that.

We also see end of Q2 or early Q3 being a strong quarter typically, a lot of our construction related business starts to pick up around that time, so things are tied to the housing industry. So, they are probably two biggest things that we would see from the ISP standpoint.

It sounds good. Thank you very much.

Thanks. Good morning.

Hi.

Good morning.

Single-digit, right.

Some was there, but there was a lot of spot volume as well in that 60%.

Okay, okay. But I should understand to the degree that the volume fluctuates as a pricing, there is a pricing framework for a wide range of volume I assume in those service contracts.

So are you pricing to those customers on a spot, is there sort of an opportunistic spot for overage volumes or is it…

Understood, okay well I appreciate that color, one more from me. With the increase well, just asking more basically, of the API grades are we seeing you kind of bumping up against capacity constraints for now.

I mean in the fourth quarter get better from an API sales standpoint, is there more capacity that you can squeeze out if required?

So we have been relatively speaking sold out. There may be a little bit of 4070 in the system depending on the weaker for the month.

But we just have been sold out all year in our API spec grades.

Okay, thank you.

Hey guys good morning.

Hey, Travis.

Hey, Travis.

First of all average selling prices within the proppants segments were pretty strong during the quarter up about 5% despite would sounds like more finite grades as the percentage of the total. Can you talk a little bit about what drove an increase during the quarter and what your expectations are going forward?

That ASP was all driven by transportation revenue relative to where we move more volume into the transloads.

Okay. And then you guys have said this in the past, but what percentage of your sales volumes were profits during the quarter for contracting customers?

About 80%.

80%?

We typically run between 70% to 80% for each of the quarters this year.

Okay. And then one last quick modeling one here, any expectations for depreciation and SG&A during Q4?

Okay, thanks Travis.

Hi, most of my questions have been answered. But are your expectations for the timing on unit trains both same, late December, early January?

Yes, so we have actually shipped the first two unit trains, Tom, we did 170 car unit train and 100 card unit train, out of our auto facility. And so when you think about doing unit trains, it kind of takes both ends right.

You have to be able to do build it and run the process smoothly at the plant, and then you also have to have the facility at the other end to receive it.

Okay. And then how transportation costs moved directionally over the past six months?

I imagine even with less activity in North America, and then I guess, how do you think these costs will look over the next three to six months in the context of your logistical changes?

Okay. And then looking out maybe three, six months?

I would expect something pretty close to where we are right now. We are not forecasting any significant drop.

Right.

Okay, thanks.

Thanks Tom.

Well, thanks everyone for dialing in today and we look forward to talking to you all again next quarter. Everybody take care.