NEW YORK, Dec. 7, 2016
/PRNewswire/ -- FourWorld Capital Management,
LLC has completed an independent analysis of the principal
product of Flotek Industries Inc. (NYSE: FTK) ("Flotek"),
challenging the efficacy and value of the fracking additive known
as CnF.
Houston-based Flotek, a
supplier of specialty chemicals to the oil and gas industry,
markets CnF as a high-potency fracking additive that it claims
enhances the extraction of oil and natural gas from horizontal
wells by 30% to 70% relative to similar additives. Touted as its
"crown jewel," CnF has long been Flotek's primary driver of revenue
and profitability, which is sold to operators of hydraulic
fracturing oil and gas wells across the United States. Flotek
sells CnF at a premium that is multiples of the price of widely
available generic surfactants.
New York-based FourWorld
Capital is an SEC-registered investment advisor focusing on
event-based investments prompted by specific tax, legal or
regulatory drivers. The firm was founded by John Addis, formerly head of Americas Equity
Finance at Bank of America Merrill Lynch.
FourWorld's analysis reveals that Flotek overstates the impact
of CnF on well productivity. In addition, an analysis using
publicly available data on oil and gas wells shows the vast
majority of major oil and gas producers have discontinued their use
of CnF products in well completions in recent years.
"Through a painstaking analysis of CnF performance – using
publicly available data on shale production from the leading
industry data sources – we found that CnF has no measurable impact
on oil production in fracked wells," Mr. Addis stated.
Among its findings on CnF, FourWorld's investigation has
determined that:
- Flotek may not have provided critical information to an
independent consulting firm, MHA Petroleum Consultants,
commissioned by a special committee of the Flotek Board of
Directors to evaluate the product earlier this year. FourWorld
contends that the resulting study, published by Flotek this past
January, was based on incomplete data and used an evaluation
technique that failed to control for key variables in the oil
extraction process.
- Employing evaluation techniques that properly control for the
key variables in the oil production process (e.g., location, well
length, water and sand volume), the estimated impact of CnF on oil
production is indistinguishable from zero. The analysis covered the
same focus areas indicated in DJ Basin report from MHA commissioned
by Flotek.
- Studies of CnF use in fracking completions from a nationwide
database of over 117,000 well sites from over 1,000 oil and gas
operators across 25 states, shows nearly 85% of the end users of
CnF products since November 2012 are
no longer using Flotek's CnF product in their reported well
completions. Among these are major operators like Anadarko
Petroleum, Devon Energy, Aera Energy and ConocoPhilips, who all
rank in the top ten operators by overall well count in the database
during the study period.
- In recent earnings presentations, Flotek highlights the
"resilience" of CnF sales volumes stemming from its broadening base
of CnF customers. FourWorld's analysis shows the growing
concentration of CnF use by just three operators - due to changes
in well design - has masked the true level of CnF end user
attrition, and demonstrates that consumption by new operators has
been minimal.
- Flotek's financial condition is heavily dependent on CnF.
FourWorld believes anyone reviewing the Company should carefully
consider the impact on Flotek's income statement if CnF sales were
materially reduced from either a reduction in pricing more in line
with competitor products or a decline in volumes from existing
customers.
As of the publication date of the report, FourWorld, and
FourWorld managed accounts, have a direct or indirect short
position in Flotek stock, and stand to realize significant gains in
the event the price of Flotek stock declines. The consulting firms
hired by FourWorld, and referenced in the report, are receiving a
fee based on the performance of FourWorld's positions in Flotek
stock, and, independent of FourWorld, may have a direct or indirect
short position in Flotek stock.
Incomplete list of CnF trade names provided by Flotek helped
overstate product's efficacy
FourWorld believes that the list of trade names provided by
Flotek to MHA, a Denver based
consulting firm hired by a special committee of the Flotek Board of
Directors, was incomplete and materially affected the results of
their study in Denver-Julesburg Basin of Colorado. MHA relied on these trade names in
order to determine which wells had Flotek's CnF products in them.
The trade names present in the focus areas of the published study
include at least two CnF products not present on the list provided
by Flotek, which accounted for an estimated 22% of CnF wells in the
focus areas reported to show materially improved results from CnF.
Without these additional trade names, wells that used CnF would be
misclassified as wells not using the product.
Using its own comprehensive data set of wells in the same focus
areas of the DJ Basin, FourWorld shows the impact of mislabeling
these wells in a simple control study, like the one conducted by
MHA, is material. The largest number of mislabeled wells in the
data-set belonged to Noble Energy. The MHA study was commissioned
by the Special Technical Committee, a committee formed from
Flotek's own Board of Directors, which was tasked with handling an
SEC inquiry into Flotek marketing practices and evaluating the
efficacy of CnF. Among the members of the Flotek Board is
Ted D. Brown, senior vice president
of Noble's Northern Region, including operations in the DJ Basin,
until January 31, 2015.
FourWorld's own comparative study of 604 wells in the DJ
basin shows no CnF benefit
FourWorld, working closely with two Houston-based energy and performance
measurement consultants, RK Trading LLC and Sylvania LLC, tested
CnF extensively using various methods.
The group performed analyses to evaluate the performance of
wells located in the eastern Colorado section of the DJ Basin, the area
reported in the study published by Flotek to show the highest
levels of oil production outperformance from wells labeled as using
a CnF product compared to wells determined not to contain a CnF
product by MHA.
These analyses demonstrate that simply controlling for the key
variables known to affect oil production, such as well length,
location, water volume, sand use and operator, reveals that the
estimated effect of CnF on oil production is indistinguishable from
zero. In simpler terms, where and how you frack the well
matters.
RK and Sylvania used robust regressions and Generalized Additive
Models to demonstrate that production in the DJ Basin wells varies
systematically with these key variables. The analysis indicates
that all of the outperformance of wells using a CnF product was
attributable to variable affecting oil production, and not
the presence of CnF. RK and Sylvania indicate similar
conclusions have been obtained for a large sample of wells
completed in the Permian Basin, one of the most prolific oil and
gas producing regions in the country.
An analysis of a publicly available database shows 85%
attrition of CnF end users
Using FracFocus, the industry standard source for finding
chemical data on oil and gas wells, FourWorld conducted a study of
over 117,000 well sites from over 1,000 operators in 25 states to
evaluate the use of CnF in fracking completions. The results
of FourWorld's analyses show that of the 334 operators who have
used CnF in any well completion over the last four years, nearly
85% of them no longer report using a CnF product in well
completions. Among them are major operators like Anadarko Petroleum
Corp. (APC), EOG Resources Inc. (EOG), Devon Energy Corp. (DVN),
Aera Energy LLC and ConocoPhilips (COP). FourWorld analysis shows
160 of 183 operators are no longer using CnF products in well
completions when the analysis is limited to horizontal fracked
wells only.
Flotek highlights new CnF customers while avoiding the turnover
among existing users: "[T]he base of CnF users broadened
meaningfully in the third quarter" Flotek CFO John Chisholm said in a
3rd Quarter 2016 earnings call. Analysis of
Flotek's own presentation materials from an industry conference in
November 2016 shows evidence of
customer turnover of nearly 70% since the start of 2014, while the
operator study described above shows a similar yet slightly higher
attrition rate of 85% of CnF end users. Furthermore, using
FracFocus data, FourWorld has identified just 19 "new" CnF end
users in 2016, who have completed a combined total of 50 wells with
CnF out of the 285 total well completed in the period.
FourWorld believes Flotek's new customers have been almost
exclusively smaller operators with minimal revenue potential. Water
usage studies conducted by FourWorld show that the top three users
of CnF have propped up CnF sales volumes despite a massively fall
in CnF well completion counts for operators outside the top three,
which highlight a worsening customer concentration problem and
calls into question Flotek's claims of a broadening customer base
and accelerated adoption of CnF chemistries.
The collaboration of FourWorld, RK Trading and Sylvania produced
multiple studies to measure the efficacy on CnF under strict
variable controls. This powerful combination brought together
expertise in data collection, database management, and statistical
analysis of well chemistry and completion design.
Dr. Jefferis, partner at RK Trading and consulting statistician,
added, "The analysis is very cut and dried. We evaluated the DJ
Basin data using several different approaches, and obtained the
same answer in every case. Once you recognize that a well completed
by someone who has already drilled several hundred wells in a given
location is bound to behave differently than a well completed by
party who has much less local experience, and acknowledge the
challenge of pushing oil through an 8,000-ft. wellbore, the results
more or less fall into your lap."
FourWorld's full thesis, along with a white paper authored by RK
Trading and Sylvania discussing their regression analysis and
generalized additive model study, are available at
www.fourworldcapital.com.
About FourWorld Capital
FourWorld Capital
Management LLC is an SEC registered investment adviser based in
New York. FourWorld focuses on
event-driven investing, with an emphasis on tax, legal and
regulatory catalysts. For more, visit
www.fourworldcapital.com.
Following publication of this report, FourWorld intends to
continue transacting in the securities covered herein. The firm may
be long, short, or neutral at any time hereafter regardless of its
initial recommendation.
Please see the full Disclaimer appearing in the report available
on the FourWorld website at:
http://fourworldcapital.com/research-flotek.
FourWorld Capital Management, LLC is a member of the Financial
Industry Regulatory Authority, CRD number 284138.
Contact: Allan Ripp
212-262-7477, aripp@rippmedia.com
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SOURCE FourWorld Capital Management LLC