Is CARBO Ceramics Going to Fracture?


Wall Street can't generate enthusiasm for oil and gas industry services leader CARBO Ceramics (NYS: CRR) , so why do our Motley Fool CAPS members disagree? They've bestowed on this company a four-star rating, signaling their faith that the business will outperform. Over 450 CAPS members have weighed in on its prospects and 94% of them see it outperforming the broad market averages, yet a third of the analysts rating it believe it will stumble.

So who has it right? The professional class of analysts sitting in their paneled offices smoking stogies, or a motley community of investors pooling their best thoughts for others to share? We think we know who'll come out ahead. How about you?

Of course, as much as we love our CAPS community, don't buy a company just because it's garnered top ratings. And don't sell it just because Wall Street says to, either. Investing requires closer diligence on your part, so use a stock's CAPS rating as a launching pad for your own research.

Cheap, plentiful... and dismayed
As the natural gas industry further displaces coal as the reigning form of cheap, plentiful, domestically based energy, the process by which it is exploited has come under greater scrutiny. Where advanced drilling techniques like horizontal drilling have provided access to previously untapped reservoirs, hydraulic fracturing has gained prominence too and some blame the technology for everything from flaming faucets to earthquakes.

CARBO Ceramics is part and parcel of the "fracking" services performed by Halliburton (NYS: HAL) , BJ Services, and C&J Energy Services (NAS: CJES) . While those companies perform the actual fracturing -- pumping fluids under high pressure into rock formations to fracture it -- CARBO provides the ceramic beads that hold those fissures open, allowing the gas and oil to flow freely through the cracks.

An attack on one link in the chain weakens the whole support structure. Halliburton may be the most visible part of the service, but if it cuts back on fracking, then CARBO supplies less proppant and Heckmann (NYS: HEK) feeds less water and treats less waste. It's no surprise that all of these companies have seen their shares fall sharply.

Yet it's not just attacks by environmentalists, regulators, and social activists that impinge on the business, it's the fundamentals of the industry that are causing the downturn too. Gas production was 5% higher over the first six months of 2012 than the same period last year, leading to inventories that were 14% above the five-year average and causing prices to be cut in half. While they've rebounded some from their low point, they still remain severely depressed.

That has led natural gas drillers like Chesapeake Energy (NYS: CHK) and others to largely exit the dry gas market in favor of natural gas liquids and oil. Rigs have been mothballed, and according to Baker Hughes, the number of natural-gas drilling rigs fell by 11 last week to 498, a 54% decline from the number that were drilling a year ago.

A cracked lens
Recently, CARBO turned in some impressive quarterly numbers, with sales volumes of ceramic proppants hitting new heights despite the influx of cheaper but inferior-quality Chinese ceramic proppants and the shift by E&P players away from the dry gas market as mentioned above. But pricing, margins, and profits will be pressured for the rest of the year because of the industry factors just discussed, so that even after its 12th consecutive annual dividend increase, CARBO's stock still sits 55% below its 52-week peak.

Wall Street is dialing back its estimates, reducing earnings forecasts by 13% to $1.17 for the current quarter from what they thought just last month. Full-year earnings were cut by 9% and next year's estimates were slashed by 23%, and now they expect just $5.33 per share in 2013 compared to the $6.94 they previously forecast. At 13 times earnings estimates, CARBO trades at a premium to its peers too, so that the stock doesn't seem very cheap at the moment despite the cheapening of the price the market gave it.

Many investors, like CAPS member xBubbaGumpShrimp, like the fact that it carries no debt, allowing it to be more nimble in these lean times and giving it more flexibility to respond to industry conditions. Yet it seems that for the immediate future, until the natural gas industry gains a solid footing again, the services business will remain soft. I foresee CARBO Ceramics bouncing back eventually, but I don't think the decline in its stock price is over just yet. Tell me in the comments box below whether you agree that it has a fractured future.

What's wrong with that?
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Fool contributor Rich Duprey holds no position in any company mentioned. Click here to see his holdings and a short bio. The Motley Fool owns shares of Chesapeake Energy, CARBO Ceramics, and Heckmann. Motley Fool newsletter services have recommended buying shares of Halliburton. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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