Knowing When to Cash In

Picking the right stocks is only half the battle. You have to know when to sell. This can be harder than you think: having done enough research to appreciate the positive aspects of a company, you may be inclined to disbelieve information that its expansion strategy is not working out as well as predicted, or that the stock price is simply overvalued.
One of the investment choices at Roadrunner Stocks that I am proudest of this year was my “sell” recommendation on Carbo Ceramics (NYSE: CRR) on June 5 of this year. At the time the stock price was up around 136. Since then, it has collapsed by more than 50 percent in less than four months. At last look it was selling at around 66. Quite a drop!

Here’s what I wrote at the time: “Carbo Ceramics is still a great company, but its stock price appears fully valued and has run up on speculation concerning its Kryptosphere proppant for deepwater drilling applications. Given the forecast for deepwater slowdown, the excitement over Kryptosphere is probably overdone and setting the stock up for disappointment. In any event, Carbo Ceramics is the most expensive stock in the Value Portfolio, has a high short interest-to-float ratio above 20%, and no longer qualifies as cheap, so it’s time to let go.”

Why were we in favor of Carbo Ceramics to begin with? The firm recently introduced its most high-tech ceramic proppant to date: Kryptosphere. This new proppant targets the deepest (30,000+ feet down), highest-pressure deep-water wells in the Lower Tertiary of the Gulf of Mexico. The pressure per square inch (OSI) in these deep-water wells can exceed 20,000 pounds and Kryptosphere is the only proppant that can handle this enormous stress level without collapsing. According to Carbo, Kryptosphere is the “strongest, highest conductivity proppant ever made.” 

Besides the fact that Carbo raised its dividend for 13 consecutive years and has a debt-free balance sheet, the main reason I liked Carbo is its technological leadership. Many oil and gas drillers are penny wise and pound foolish, choosing cheap proppant based on sand or inferior ceramics from China, Brazil, or Russia. Although these inferior proppants have a quick payback period, they damage the wells and make them much less productive over their lifespan than would be the case if they had used Carbo’s state-of-the-art proppant.

Carbo CEO Gary Kolstad has been making the rounds of investment conferences educating analysts and the investing public about the increased estimated ultimate recovery (EUR) available from using Carbo’s proppant and hopefully he is making headway. Drillers aren’t stupid and eventually will understand that it is better to spend more up front for high-quality proppant if it means a higher present value of total profit over time.

Furthermore, Carbo’s technological advances in deep-water proppant will have beneficial effects on its entire line of proppant. CEO Kolstad stated the following about Kryptosphere:

What we’ve learned in creating this new proppant will now benefit the rest of our proppant. I would be surprised if we don’t obsolete all of our products. My dream is that we are going to create something here and obsolete everything we’ve ever made up to this time. And in fact, we’re in little bit of a journey right now to figure out the capital cost to do conversions on plants to that. So if we do that and we hope we can maintain a similar cost structure, we certainly will obsolete a lot of these poor proppants like the Chinese.

One of the main components of competitive advantage is differentiation, and Carbo’s Kryptosphere technology may be the differentiator that maintains Carbo’s market-leadership position with high profit margins for years to come.

So while the long-term fundamentals of the company remain strong, the price simply rose too quickly. A lot of other people shared our enthusiasm for the company, basically. I like to think we were among the first to take our profits and run, though!

This is why it’s so important to subscribe to Roadrunner Stocks. You can find “stock tips” anywhere. Sell signals are harder to come by – but they can make all the difference.