Expansion Into Colorado Water Markets And Permian Basin Will Advance Sustainability Goals

Key Takeaways

• Expansion in Water Infrastructure and strategic investments in key markets are expected to drive sustainable revenue and margin growth.
  
• Focus on water recycling aligns with sustainability goals and market demand, enhancing competitive positioning and improving operational cost efficiency.
  
• Potential revenue decline from modestly lower U.S. activity levels, consolidation uncertainty, short-term infrastructure delays, high capital investments, and fluctuating commodity prices could impact growth.

Catalysts

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

• Select Water Solutions is focusing heavily on expanding its Water Infrastructure segment with long-term contracts for organic infrastructure projects and bolt-on acquisitions. These efforts are likely to drive continued revenue growth and improved gross margins, with management expecting segment revenue to grow by 15% to 25% in 2025 and further into 2026. This should positively impact both revenue and net margins.
  
• The company is investing in municipal, industrial, and agriculture water markets in Colorado, leveraging its expertise in water management and new partnerships. This $62 million investment is anticipated to bring high-margin, long-term contracted revenue streams, diversifying and stabilizing cash flows, impacting revenue and net margins significantly over time.
  
• Continued emphasis on produced water recycling is helping Select exceed sustainability targets and reduce environmental impact, responding to growing customer demand. This positions Select favorably in the market to capture more business while potentially improving net margins through lower operational costs and fees associated with new water rights and contracts.
  
• Select aims to maintain strategic flexibility in capital allocation, suggesting a focus on continuing shareholder returns and possibly increasing dividends or buybacks. With expected future free cash flow conversion after capex of at least 30%, these steps will favorably impact earnings per share (EPS).
  
• Agreements for new recycling and infrastructure facilities, including a substantial 124,000-acre dedication for a greenfield project in the Permian Basin, expand Select’s customer base and increase its infrastructure utilization rate. These long-term contracts underscore continued revenue growth prospects and gross margins improvement as existing networks are fully commercialized.

Select Water Solutions Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Select Water Solutions's revenue will grow by 6.3% annually over the next 3 years.
• Analysts assume that profit margins will increase from 2.1% today to 8.1% in 3 years time.
• Analysts expect earnings to reach $141.8 million (and earnings per share of $1.36) by about April 2028, up from $30.6 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 18.9x on those 2028 earnings, down from 28.4x today. This future PE is greater than the current PE for the US Energy Services industry at 10.6x.
• Analysts expect the number of shares outstanding to grow by 0.36% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.31%, as per the Simply Wall St company report.

Select Water Solutions Future Earnings Per Share Growth

Risks

• Despite a strong outlook, the company's expectation for U.S. Lower 48 activity levels to modestly decline in 2025 could impact revenue and growth potential in their core energy markets.
  
• The possibility of consolidating underperforming or non-strategic areas in Water Services if they do not meet objectives by 2025 introduces uncertainty and could negatively impact overall revenue and margins if not effectively managed.
  
• Delays in bringing water infrastructure revenues online due to asset conversion efforts from recent contracts and acquisitions could affect short-term revenue growth and impact investor sentiment.
  
• The significant capital investment required for long-term infrastructure projects and new ventures, such as the Colorado water rights investment, could strain financial resources and affect short-term free cash flow, even though these projects may offer longer-term revenue benefits.
  
• Fluctuations in oil and gas commodity prices and uncertainty in the energy market could impact the company’s profitability in the Water Services and Chemical Technologies segments, affecting net earnings if the anticipated price stability does not materialize.

Valuation

• The analysts have a consensus price target of $17.9 for Select Water Solutions based on their expectations of its future earnings growth, profit margins and other risk factors.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $1.7 billion, earnings will come to $141.8 million, and it would be trading on a PE ratio of 18.9x, assuming you use a discount rate of 7.3%.
• Given the current share price of $8.41, the analyst price target of $17.9 is 53.0% 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.