Escalating Regulations Will Constrain Oilfield Water Infrastructure But Allow Resilience

Key Takeaways

• Exposure to oilfield cycles, regulatory shifts, and rising competition may constrain long-term growth and increase earnings volatility despite infrastructure expansion and integration.
  
• High capital demands, evolving water rights regulations, and potential overcapacity could pressure margins and limit free cash flow even as recycling trends and digital optimization improve efficiency.
  
• Heavy reliance on oil and gas, regulatory scrutiny, and business streamlining expose Select Water Solutions to market volatility, margin risks, and potential long-term pressure on profitability.

Catalysts

Provides water management and chemical solutions to the energy industry in the United States.

• Although Select Water Solutions has rapidly signed multi-year contracts to expand its water infrastructure in New Mexico, successfully increasing dedicated and ROFR acreage and recurring contracted backlog-which could provide sustained revenue growth-there is significant risk that the accelerating transition to renewables and climate risk policy may reduce the long-term addressable market for oilfield water solutions, ultimately constraining revenue potential and growth beyond current projections.
  
• While mounting water scarcity and regulatory requirements continue to drive oil & gas operators toward greater utilization of recycling and advanced water management services-reinforcing the high-margin, integrated infrastructure strategy that has recently improved company profitability-the rising cost and unpredictability of future water rights regulation or environmental constraints could meaningfully increase operating expenses and compress net margins over time.
  
• Even with growing customer integration and asset conveyance (operators handing over infrastructure to Select) underpinning an expanding and relatively visible revenue base, Select remains materially concentrated in cyclical, oilfield-linked basins. Should major customers materially reduce drilling or E&P activity due to either stricter ESG mandates or volatile commodity prices, Select could face broader revenue and EBITDA volatility despite its infrastructure backlog.
  
• Despite continued operating leverage from digital optimization, automation, and rationalization of legacy service assets intended to boost efficiency and long-term margins, the capital intensity of network build-out and the necessity to maintain and upgrade acquired infrastructure could limit free cash flow generation, particularly if further regulatory delays or weak demand postpone new project ramp-ups.
  
• While Select stands to benefit near-term from rising produced water volumes in unconventional plays and increasing regulatory pressure for responsible disposal and recycling, intensifying competition in the water solutions industry and potential overbuild of capacity may erode pricing power, putting sustained pressure on both revenue growth and operating margins in the medium to long term.

Select Water Solutions Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Select Water Solutions compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Select Water Solutions's revenue will decrease by 2.3% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 2.3% today to 5.2% in 3 years time.
• The bearish analysts expect earnings to reach $70.9 million (and earnings per share of $0.66) by about August 2028, up from $33.0 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 22.2x on those 2028 earnings, down from 24.9x today. This future PE is greater than the current PE for the US Energy Services industry at 13.7x.
• Analysts expect the number of shares outstanding to grow by 1.35% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.02%, as per the Simply Wall St company report.

Select Water Solutions Future Earnings Per Share Growth

Risks

• The company's aggressive expansion in New Mexico and capital-intensive infrastructure build-out requires significant ongoing growth CapEx, and any slowdown in new contract wins or macro oilfield activity could lead to unused capacity, reducing future return on invested capital and compressing free cash flow.
  
• There is a high reliance on the health of the upstream oil and gas sector to drive demand for water infrastructure and services, making Select Water Solutions vulnerable to long-term structural shifts such as decarbonization, increased adoption of renewables, and regulatory shifts away from hydrocarbons, all of which could reduce medium
• to long-term revenues.
  
• Efforts to divest and rationalize noncore or lower-margin segments such as trucking and further carve-out of Peak Rentals, while streamlining the business, may result in reduced revenue diversification, making Select more exposed to volatility in its core water infrastructure business and potentially increasing earnings volatility during industry downturns.
  
• Increasing competition in water management and recycling throughout major shale basins, particularly as customers convey their internal assets to operators like Select, could lead to price competition and margin compression, ultimately impacting net margins even as the company grows market presence.
  
• Heightened regulatory scrutiny surrounding water usage, disposal, and potential environmental issues in energy production regions (including New Mexico and Colorado), driven by ESG trends and water scarcity concerns, may drive up operating costs or restrict project development, presenting risk to Select Water Solutions' long-term profitability and cash flow.

Valuation

• The assumed bearish price target for Select Water Solutions is $10.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Select Water Solutions's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $18.0, and the most bearish reporting a price target of just $10.0.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $1.4 billion, earnings will come to $70.9 million, and it would be trading on a PE ratio of 22.2x, assuming you use a discount rate of 8.0%.
• Given the current share price of $7.91, the bearish analyst price target of $10.0 is 20.9% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.