Hi-Crush Partners LP offers Double-Digit Distribution Growth Potential on Favorable Industry Demand and Efficient Execution


Hi-Crush Partners LP (HCLP) is a Houston, Texas, based pure play domestic supplier of high-quality frac sands used as proppant in the hydraulic fracturing process (fracking) for the extraction of oil and natural gas from shale formations. The company has strong growth prospects within 2014, with new facilities and distribution terminals, and is committed to double-digit distribution growth. Moreover, favorable frac sand demand/supply economics favor long-term contracts at favorable prices. While shares are near all-time highs, units still offer sizable upside based on additional facilities slated to become operational in the second half of 2014.

Hi-Crush is structured as a master limited partnership (MLP) and is managed and operated by its general partner (GP) which is 100% owned by sponsor Hi-Crush Proppants LLC.

Units Up 240% since IPO, Q2 2014 Distribution Up 9.5% Sequentially

Hi-Crush went public in August 2012 at $17 per unit, well below its initial filing range of $19 – $21 per unit. Since its IPO, units are up 240% to $68 as of July 24, 2014, and are now near the top of their 52-week range of $20.26 – $69.25.


At $68 per unit, the company has a market capitalization of $2.3 billion and trades at a price-to-earnings ratio of 25.3x that is in-line with its peers.


On Wall Street, 12 analysts have a Buy rating on shares with an average price target of $62.90 and a high-low range of $75 – $54.


Management Committed to Double-Digit Distribution Growth, Raises Q2 Distribution 9.5%

For Q1 2014, Hi-Crush paid a distribution of $0.525 per unit ($2.10 annualized) for a current yield of 3.90%. And, for Q2 2014, management announced distributions of $0.575 per unit ($2.30 annualized), up 9.5% sequentially and the fourth consecutive increase over planned minimum quarterly distributions. Over the past four quarters, distributions are up 21%, with management focused on providing double-digit annual growth in distributions through steady quarterly increases.


Upon the payment of Q2 distributions, on August 15, 2014, 3.75 million Class B units (all owned by the company’s sponsor, Hi-Crush Proppants LLC) will become eligible for 1-to-1 conversion to common units.

Positive Momentum Leads to Higher Financial Outlook, 44% EBITDA Increase

With sales volumes expected to rise from new facilities and favorable pricing, Hi-Crush raised its 2014 and 2015 financial outlook significantly. The company now expects to sell 3.6 – 4.3 million tons, up from 2.3 – 2.7 million tons, with EBITDA revised up 44% to $115 – $135 million, and DCF up 33% to $100 – $130 million, with expected distributions of $2.30 to $2.50 per unit. The company has already announced Q2 distributions at $2.30 annualized, so we fully expect FY 2014 distributions to rise higher by Q4 and into 2015. The revised numbers do not include potential dropdowns or M&A upside. Per unit data includes the conversion of Class B units into common units.


Hi-Crush Partners Is an Industry Leader with Tier One Customers

Hi-Crush is a low cost producer of monocrystalline sand – primarily Northern White sand, a premium specialized sand type predominantly found in Wisconsin and portions of the Upper Midwest. The company’s sand reserves, processing and transport facilities are based in Wisconsin, well connected by rail links, and storage facilities are located close to customers in major shale plays.

The company produces a range of frac sand sizes for top tier oilfield services’ customers in all major U.S. shale basins, and is one of the few Northern White sand producers with facilities that are directly connected to railway lines for quick loading and transportation.

The company sells substantially all of its sands to investment-grade pressure pumping service providers under freight-on-board long-term take-or-pay contracts with virtually assured regular monthly payments for committed sand volumes. Hi-Crush has top-notch equipment and facilities that meet or exceed federal standards and management is fully committed to safe and environmentally compatible sand operations with best industry practices and procedures across all operations.

In addition to frac sand sales, Hi-Crush provides distribution transload services for the handling and storage of frac sand through a network of strategically-located destination terminals that reduce logistical costs and minimize trucking detention fees. The company also manages customers’ rail cars parked at its destination terminals.

Collectively, the industry’s top 10 producers hold a majority of Tier-1 capacity, of which Hi-Crush holds a 13% share.


Growing From One Facility in Jan 2014 to Three by Year End 2014

Hi-Crush has two facilities in Wisconsin – Wyeville and Augusta. Each facility can process up to 1.6 million tons per year. The Wyeville facility is on 651 acres, Augusta is on 1,187 acres, each with substantial coarse-grade Northern White sand reserves, on-site multiple-mesh processing facilities and on-site rail connections to a Union Pacific Railroad mainline. The company employs leading third-party test companies to test and certify its proppant grade and quality.

The company’s 12 destination terminals are located across New York, Ohio and Pennsylvania, in active areas of shale plays, spaced so customers travel no more than 75 miles from their well sites to take possession of frac sand or other proppants such as ceramics or resin-coated sand.

The company’s Wisconsin facilities jointly have 4.2 million tons of annual 20/70 capacity (including one million tons in capacity expansion at Augusta that will be completed by Q3 2014) and over 30 years of reserves.

In the Marcellus and Utica shales, Hi-Crush has exclusive rail access, the largest distribution network and a niche position in America’s strongest drilling area. To serve the Permian basin, Hi-Crush is developing a new facility in Big Spring, TX, to serve an expected 20% increase in Permian production from 2013-2015.

Hi-Crush plans to add 2.6 million tons of annual 20/70 production capacity from its Whitehall facility which is expected to come online in Q3 2014. In addition, the company plans to better serve customers in key production locations through additional distribution terminals in the northeast and in Texas.


Strong Competitive Advantages


Hi-Crush has long-term contracted cash flow through low-cost production and long-lived high quality reserves. It has a prime portfolio of existing and planned assets, a focused vision of carefully-managed execution and distributions, and visible avenues for growth and expansion.

For 2014, the company has 3.2 million tons contracted for delivery, and this predictable and growing income stream underpins its target of double-digit distribution growth.

With 1,838 contiguous acres of premium sand, planned expansion of its distribution network and construction of the Whitehall facility by its sponsor, Hi-Crush has good visibility into organic growth. And its profits are boosted by the lowest production cost per ton in the industry.

The 3.2 million tons contracted for 2014 – take-or-pay – reflect signed contract extensions and increased volumes with Weatherford and FTS International, a new 5-year contract with U.S. Well Services and Q1 2014 delivery commencement under a new 6-year contract with Baker Hughes – all top-tier investment grade customers.

In addition, the company has $4 million contracted take-or-pay tons in 2015 and expects volumes and contracts to grow when its sponsor’s new Whitehall production facility comes online with 2.6 million ton capacity in Q3 2014 and as its new Permian distribution terminal commences operations.

Hi-Crush has proven production and expansion, with the doubling of contracted volume sales from 1.6 million tons/y from Wyeville at the beginning of the year to 3.2 million tons/y from Wyeville and Augusta by April 2014 to 6.8 million tons/y by year end 2014 from expansion within Augusta and the new Whitehall facility of its sponsor.


In parallel, Hi-Crush increased the average term of its contracts from 2.5 years in 2012 to about 4 y as of May 2014 – aided by stellar execution, high quality reserves, facility and distribution expansion and favorable supply/demand dynamics.


Hi-Crush has 4,800 railcars under management and plans to add 1,700 more in 2014, reflecting strength and confidence in future demand.

As the chart below shows, Hi-Crush has steadily reduced LTM rolling production costs per ton (data from Wyeville) even as volumes increased. This operational efficiency translates directly into higher margins and DCF.

 


Hi-Crush financed its $224.25 million Augusta facility acquisition through a combination of $200 million in senior secured term loan credit and proceeds from the sale of 4.25 million common units at $41.29 per unit, in April 2014. Augusta helped double Hi-Crush’s production capacity to 3.2 million tons per year and established a baseline for future expansion.

Industry Trends Favor New Contracts at Favorable Prices

Demand for raw frac sand, such as the company’s Northern White variety, is expected to rise to about 63 million tons by 2022, up from 23.5 million tons in 2012, and is projected to increase to at least 80% of total proppant volume. In parallel, reserve constraints and tougher permitting (especially for new plants) have created supply constraints that favor higher prices per ton. As a result, prices are expected to rise to $80 per ton by 2022, and perhaps higher. These positive economics should continue to boost cash flow and distributions for at least the next six years.


Solid Management Team with Deep Frac Sand Industry Experience

Robert Rasmus, co-founder of Hi-Crush Proppants LLC, serves as Co-CEO of the company’s General Partner. Rasmus has extensive experience in partnering with large oil services companies in unconventional basins in the U.S. and comes from a venture capital and investment banking background.

James Whipkey, also a co-founder of Hi-Crush Proppants LLC, serves as Co-CEO of the company’s General Partner. Whipkey has over 30 years with the oil and natural gas industry, in both technical and financial areas. He too comes from a venture capital and investment banking background but holds a B.S. in Petroleum and Natural Gas Engineering.

Jay Alston serves as COO and has extensive experience in designing and managing frac sand processing facilities.

Q1 2014 Results Show 32% Increase in Net Income

In Q1, Hi-Crush produced and delivered 400, 401 tons at an average production cost of $15.53 and sold 632,763 tons (including material from reserves) at an average price of $76. Transload services brought in additional revenue.

On total Q1 revenues of $55.8 million (up 184%), the company had EBITDA of $19.2 million, distributable cash flow (DCF) of $17.4 million, net income of $14.3 million (up 32%) and earnings of $0.49 per unit.

Net income was impacted by severe weather in January with lower sales volume and higher transportation expenses.


As of April 30, 2014, Hi-Crush had $29.7 million in cash, a revolving credit facility expandable to $200 million and 198 million in net debt (senior secured term loan). Less cash on hand, the company had net debt of $168.3 million with Net Debt / EBITDA of 1.76x.

Summary

Hi-Crush Partners has a strong and growing asset base, solid take-or-pay long-term contracts and favorable supply/demand dynamics that support growth for the foreseeable future. Management is committed to double-digit distribution growth and shares have delivered solid capital gains since the company went public. Management has steadily reduced operating costs per ton so pricing advantages flow directly to the bottom line. At $68, the market price of traded units may appear high but new announcements on upcoming expansion projects will likely boost unit prices. However, cautious investors could use Married Puts (buy shares + at-the-money puts) for downside protection without giving up any upside or income.

July 27th Update

This name has provided significant profits to subscribers. As a name moves higher, buying protective puts becomes less expensive. I recommend new-option investors learn how to trade options on $HCLP. This has been a successful strategy for current members. Todd Johnson

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