Flotek Industries (NYSE:FTK) strives to make money in oddly different areas – the oil field and the cosmetics counter. And it is failing miserably.
The company just reported an astounding $12.5 million quarterly loss or negative 23 cents per share.
This odd business got an even odder reaction to its earnings report. The stock price rocketed!
That’s right. But we’ve drilled into Flotek filings and other publicly available information only to find a dry hole… and a broken perfume bottle.
TheStreetSweeper presents a quick hit zeroing in on the top reasons we think FTK stock should plummet. However, investors may read the financial details on pages 3-7 here.
What Is Flotek?
First, Houston-based Flotek sells products primarily to oil and gas companies. The flagship “Complex nano-Fluid,” or CnF, is a chemical added to water in hydraulic fracturing operations used to make it easier to pull oil and gas from below ground. Energy Chemistry Technologies accounted for $11.9 million income last quarter. Rig counts and oil prices keep this division on a short, cruel chain.
Second, Flotek buys citrus oil to process and sell to the oil, flavor and fragrances industries. Consumer and Industrial Chemistry accounted for $2.7 million income.
Third, the company builds downhole drilling equipment. Drilling Technologies accounted for a $21 million loss last quarter.
Fourth, Flotek assembles equipment such as rod pump components and valves. This Production division dinged Flotek with a $1.6 million loss last quarter.
Why Did The Stock Price Recently Rocket?
Flotek shares flew about a buck beyond the $18.25 average price target – despite the debilitating 17 percent loss – we think primarily because of misplaced enthusiasm.
The SEC quarterly filing points to CnF and hypes the product’s future:
The increased sales of CnF® during the second quarter of 2015 were due to Flotek’s aggressive promotion of the benefits of CnF® in completions and re-stimulation efforts by leveraging the quantitative evidence provided through the patent pending FracMax™ analytical platform. These strategic sales and marketing efforts are ensuring that Flotek remains a leader in the energy chemistry industry and is poised to take even greater advantage of any market recovery.
That July 22 announcement and corresponding stock bump follow another one spurred by the April 13 announcement that Flotek and Solazyme (NASDAQ:SZYM) would partner to commercialize and market Flocapso -- a drilling fluid additive combining Flotek’s “CnF” and Solazyme’s “Encapso.”
Here is how Solazyme’s recent quarterly filing describes the deal:
Flotek—In March 2015, the Company entered into agreements with certain Flotek Industries Inc. affiliates (Flotek) to jointly commercialize Flocapso™, a drilling fluid additive, and to allow Flotek to market the Company's Encapso™ product in certain Middle Eastern markets.
Then, Flotek rose again Aug. 31 when CNBC’s Jim Cramer mentioned Flotek during his lightning round.
Look how those items jazzed up the Flotek stock chart in mid-April, July 22 and Aug. 31:
(Source: Yahoo (NASDAQ:YHOO) Finance)
Here’s the takeaway: The stock increases appear to coincide with the market’s misunderstood, over-enthusiastic reactions to what boil down to promotional or near-promotional efforts.
Next, let’s look more closely at the Solazyme (NASDAQ:SZYM) enthusiasm that we believe is misplaced.
Solazyme Sets The Trend … Down, Down, Down
So, an overly impressed market overbought Flotek and Solazyme immediately after that April partnership announcement.
Then Solazyme investors apparently began having second thoughts about its partnerships and ability to execute on its business plans, sending the stock down – from about $4 then to about $2 now.
Investors can gauge Flotek’s offering according to how its troubled partner, Solazyme has plummeted, as shown below:
(Source: Yahoo Finance)
Why Investors Can’t Expect Much From Troubled Solazyme Deal
Since 2014, Solazyme’s “Encapso” products have been made in the Bunge sugarcane plant in Brazil – and the combined Encapso-CnF product is curiously to be marketed to a highly limited market - “certain Middle Eastern markets.”
Limiting the pitch to certain Middle Eastern markets seems odd. Flotek’s CEO John Chisholm told the Oil and Gas Financial Journal in 2012:
Today about 85% of our business is in the US and Canada due to the heavy concentration of hydraulic fracturing equipment in North America and the fracture pumping company's dependence on the type of chemicals that Flotek develops.
Furthermore, see what Solazyme’s SEC filing says:
Both oil and Encapso™ products have been manufactured; production is continuing and is expected to ramp toward targeted nameplate capacity as the Company works to increase efficiency in unit operations, and balances production volumes with operating costs as it focuses on higher value products.
Despite the described ramp up, sales and adoption of Encapso have actually been “slower” than expected.
From Solazyme’s second quarter conference call:
We made substantial progress on the commercial development side across our food, personal care and industrial areas and continue to move the business forward. That said there are also some areas of disappointment as revenue for the quarter was below our expectations largely on slower adoption rates of Encapso.
Understandably, Flotek’s own partner shows little faith in the marketability of their combined products.
Another Killer: Low Rig Count
The United States – and to a lesser degree the Canadian – rig count drives the market for Flotek products.
Here is a chart clearly indicating that the extremely low rig count further narrows Flotek’s opportunity going forward … from Flotek’s own filing:
(Source: SEC filing)
Here is what Solazyme’s CEO said during the last earnings call:
“On the industrial side Encapso experienced headwinds and slower than anticipated adoption rates in a very tough grilling environment resulting from lower oil prices and a dramatically reduced U.S. rig count.”
And here is what Flotek CEO John Chisholm said during his second quarter earnings call:
So, we had just, as kind of a history, had said that by the time 2016, we would be exiting ‘16, we felt we’d be penetrating 30% of the wells completed in the U.S. with Complex nano-Fluid, those comments were made when the rig count was at 1,800 and certainly no expectation by us or anyone else that it would be at 850.
Fracker CEO: Half Of Fracking Services Providers Dead By Year End
Both Flotek and Solazyme depend heavily on the future of the debilitated oil industry. While it’s impossible to predict exactly how long or how much deeper the oil patch pain will go, one expert spoke up recently about fracking and pressure pumping … and it doesn’t sound pretty.
A fracker CEO warned that over 100,000 energy jobs would be lost this year. The chief executive of Weatherford International – the fifth largest US fracker – added that half of the 41 fracking companies (down from 61 since last year) in the U.S. – the world’s largest market - would be dead or sold by year-end because of oil companies’ budget cuts, according to zerohedge.com’s Tyler Durden.
“While 'stability' in oil prices remains the status quo, it appears the industry cannot manage on that alone,” Mr. Durden wrote, “(and given the pricing of recent resource-related junk bond offerings, they will not have the luxury of cheap financing to enable them to keep running).”
It all links back, of course, to the price of crude oil today ~$45 per barrel, compared with $95 a year ago.
Fierce Competition
The competition is rigorous for the dwindling customers for drilling fluids. A rigzone.com search shows that Flotek is competing with 104 manufacturers of drilling fluids.