Smart Sand Inc (SND) 2018 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Smart Sand Q4 2018 Earnings Conference Call. (Operator Instructions) As a reminder, this conference call may be recorded. It is now my pleasure to hand the conference over to Josh Jayne, Finance Manager. Sir, you may begin.

Good morning, and thank you for joining us for Smart Sand's Fourth Quarter 2018 Earnings Call. On the call today, we have Chuck Young, Founder and Chief Executive Officer; Lee Beckelman, Chief Financial Officer; and John Young, Chief Operating Officer.

Before we begin, I would like to remind all participants that our comments made today will include forward-looking statements, which are subject to certain risks and uncertainties that could cause actual results or events to materially differ from those anticipated. For a complete discussion of such risks and uncertainties, please refer to the company's press release and our documents on file with the SEC. Smart Sand disclaims any intention or obligation to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, March 14, 2019.

Additionally, we may refer to the non-GAAP financial measures of adjusted EBITDA and contribution margin during this call. These measures, when used in combination with GAAP results, provide us and our investors with useful information to better understand our business. Please refer to our most recent press release or our public filings for our reconciliations of adjusted EBITDA to net income and contribution margin to gross profit.

I would now like to turn the call over to our CEO, Chuck Young.

Thanks, Josh. Despite of challenging conditions, Smart Sand had another good quarter. Lee will give you specifics on our strong financial results later in the call.

But first, I wanted to touch on some of the fourth quarter highlights. We generated $18.8 million of adjusted EBITDA for the quarter on sales volume of 610,000 tons. Our sales volume through our Van Hook terminal in the Bakken increased over previous quarter by 30,000 tons. Van Hook volumes represent 1/3 of our total sales volume in the quarter.

For the year, we generated adjusted EBITDA of $66 million. That's up 116% over our 2017 results. The increase was due to higher sales and greater contribution margin, thanks to our expanded logistics capabilities. We've now contracted 2 sets of our last mile silos, and we have 2 additional sets ready to be deployed.

Our base of long-term contracts provided a solid financial foundation for the company during the fourth quarter slowdown. As of December 31, 2018, 58% of our annual nameplate processing capacity was contracted under long-term take-or-pay contracts. These contracts are fully enforceable. They provide us with positive downside protection through downturns in the operating cycle.

We continue to be focused on executing our long-term strategy of expanding our services for our customers from the mine to the well site. We saw continued strong activity through our Van Hook terminal in the Bakken, moving almost 200,000 tons transloaded through that terminal for the quarter. This validates our approach to investing in logistics and providing complementary logistical services for our clients.

Moving our sales proposition farther down the supply chain and closer to the wellsite is working for Smart Sand. We've been able to capture incremental value by delivering sand in the basins rather than selling FOB to mine. We believe our focus on providing logistical services to our customers strengthens our relationships with them by providing high-quality value-added services to improve their sand delivery supply chain. Here's another way we create incremental margin and long-term value for our shareholders, by broadening our services as a fully integrated frac sand supply and services company, a company that provides sustainable logistics all the way to the wellsite.

Our wellsite storage solutions are integrated with a flexible, user-friendly profit management system to help control the merge, drive down cost, improve safety and deliver high volumes of sands sustainably. We now have 2 sets of silos under contract, and we have an additional 13 silos complete and ready for deployment. Our silo production is scalable. As a result, we're able to respond quickly to incremental demand as needed.

We continue to have strong interest in our wellsite solutions. We're having good discussions with many potential customers, and we expect to add new contracts in coming quarters. Smart Sand's last mile technology is both unique and innovative. It addresses the shortcomings of other wellsite solutions now in the market.

Our wellsite storage solution provides all the benefits of boxes, silos and hybrids all in one package. We support nomadic and gravity dump trailers. We have industry-leading dust suppression, and we can turn trucks fast. We're able to provide our wellsite storage solutions to customers in any basin regardless of whether we're delivering sand to that market.

And now turning to the industry. According to Spears, 2018 saw 32% increase in profit demand over 2017, and 2019 is expected to be slightly higher than 2018. We all know that E&Ps have taken a cautious approach to the start of this year, but we're seeing a substantial pickup in activity that began in mid-February. Assuming oil prices stay near current levels, we expect activity to increase in Q2 and continue to second half of the year.

Outside of the Permian, Spears had Eastern U.S. demand growing by 13% in 2019 and 2020, and the Bakken is looking at 8% growth annually over the next few years. This is very positive for our business as we have strong logistics capabilities into both of these markets. In addition, there is limited-to-no in-basin sand competition in these operating basins. Our Van Hook terminal in the Bakken is well positioned to benefit from this increasing activity. Our operation is designed for growth with significant rail yard capacity and plenty of room to expand.

Finer mesh Northern White sand has continued to be the preferred proppant choice in the Bakken, Marcellus and Utica basins. Based on all the reports, we foresee increasing activity in these markets over historical levels. We believe there will continue to be long-term demand for high-quality finer mesh Northern White sand throughout North America, including in the Permian. Northern White demand in the Permian is gaining traction again. From discussions with our customers and spot activity, we're seeing increasing interest primarily in Northern White 40/70. We expect to see continued interest from our service companies and operators in the Permian, companies that are focused on decline curves and EUR. As we've said time and time again, quality matters.

There are plenty of stories of Permian operators having problems with their well results. The possible causes include: downspacing, parent-child relationships and non-prime acreage. Our belief is the lower-quality characteristics of the Permian regional sand, primarily crush strength and turbidity, are manifesting themselves into steeper decline curves and lower EUR. Interestingly, these problems are also being seen in the Eagle Ford and other operating basins with regional sand sources. Ultimately, we continue to believe that operators in Texas and Oklahoma will recognize the negative impact that regional sand may have on long-term well results. So they'll look to use more Northern White as part of their proppant needs going forward.

We believe E&Ps will continue to focus on living within their cash flow and long-term return on capital. Therefore, well performance beyond the first 60 to 90 days is going to matter. To improve long-term return on capital, well performance in years 2 and beyond is increasingly important and the quality of sand has a big impact on this long-term well performance. We believe the recent increase in Northern White demand is partly as a result of focusing on improving long-term well performance.

Finally, logistics matters. Our business is logistics business, moving sand in bulk. In bulk commodity movements, the way you move the product is critical because it reflects on what you can offer your customers and how you drive scale and efficiency with your railroad partners. Bulk commodities belong on rail. Last mile trucking distances must be minimized to be sustainable.

Moreover, in the Permian, trucking challenges continue to mount, whether from congestion delays, safety concerns or E&P sustainability goals. We continue to believe the answer is building appropriate rail infrastructure adjacent to producing acreage and minimizing last mile trucking distances. Trucking distances greater than 50, 75 or 100 miles from the mine or terminal to the well pad are not sustainable, and they do not save money long term.

Sustainable profit in logistics starts at the mine. They require large reserves, massive rail yards and willing rail partners. Such logistics must have complementary large rail infrastructure on the receiving end, preferably right on the producing acreage, to minimize trucking distance to the wellhead. When combined with the reduced well performance of regional sand, Northern White delivered in an efficient bulk commodity movement makes sense.

So in sum, the fourth quarter and 2018 fiscal year were good ones for Smart Sand. Despite some challenging market conditions, we were able to deliver solid adjusted EBITDA for both the quarter and the full year. We remain focused on our long-term objectives, and we've proven that we're profitable through all of our operating cycles with consistent operational results.

Our investment in Van Hook terminal in the Bakken is a strong contributor to our future operating performance. With our current available Northern White capacity, our terminal in Van Hook and our ability to deliver wellsite storage solutions, we're positioned to benefit from the improving market conditions.

Looking forward, we plan to stay the course and continuing to execute on our already profitable plan, the plan to provide long-term value to the organization and people most important to us: the company, our employees, our customers and our shareholders.

In closing, I'd like to say a special thanks to our employees. They've contributed to our growth and progress in so many ways, including these: making our Van Hook terminal such a success, giving us the capacity to deploy silos as needed and containing costs throughout the organization. Thank you all for your efforts and hard work.

And with that, I'll turn the call over to our CFO, Lee Beckelman.

Thanks, Chuck. As Chuck highlighted, we were able to deliver solid financial performance in the fourth quarter despite the slowdown in activity. I'll primarily be going over the fourth quarter 2018 financial results.

Starting with the sales volume. We sold approximately 610,000 tons in the fourth quarter. A decline in sales volumes from the third quarter 2018 was primarily due to the slowdown in completions activity. Though our overall sales volumes were down sequentially, our sales through our Van Hook terminal increased to almost 200,000 tons compared to 170,000 tons in the previous quarter. This increase continues to validate our approach to investing logistics and providing complementary logistical services for our customers and moving our sales value proposition farther down the supply chain and close to the wellsite.

Total revenues were $52.2 million in the fourth quarter of 2018, a 17% decrease compared to the third quarter 2018 revenues of $63.1 million. Sand sales revenues decreased to $29.4 million from $44.2 million in the third quarter of 2018 primarily due to less volume sold under both spot and contract sales. The average sales price for the -- per ton in the fourth quarter was $48.20 per ton versus $53.77 per ton last quarter. A decrease in average selling price sequentially was primarily due to the mix between contract and spot sales as well as less spot sales volume, partially offset by more volumes sold in-basin at our Van Hook terminal in the Bakken.

In the fourth quarter, we recognized $3.9 million of shortfall revenue for payments from customers who did not take their minimum volumes in the quarter. Currently, some of our contracted customers will likely not take their minimum volumes in the first quarter of 2019 as well, and we expect to have shortfall revenues in the first quarter as well. As Chuck highlighted in his comments, our take-or-pay contracts with minimum required volumes and payments provide Smart Sand with a stable source of revenue to help the company manage through the operating cycles in the industry.

Transportation revenue, which includes freight and rail car usage, was $18.9 million, a slight increase over the $17 million in the third quarter. This increase was primarily due to increased in-basin sales activity. We expect a shift in volumes in traffic at our Van Hook terminal to continue to increase throughout 2019. Our cost of sales for the quarter were $34.2 million, a decrease of $6.4 million from the third quarter's $40.6 million. The decrease in cost was primarily due to lower sales volume and lower production cost as we rightsized our labor and equipment cost to better match our cost structure with current activity levels. This helped to offset some of the increased production costs we typically see in the fourth quarter.

For the fourth quarter 2019, our contribution margin was -- per ton was $37.34 compared to $32.95 per ton last quarter. The increase was primarily due to higher transportation revenue and more shortfall revenue in the quarter, partially offset by lower average sales price per ton. By selling sand in-basin and close to the wellsite, we were able to capture more incremental margin than by selling sand at the mine gate.

Gross profit was $18 million in the fourth quarter compared to $22.6 million in the third quarter. The decrease again is due to lower sales volume overall, partially offset by lower production costs.

Our operating expense in the quarter were $23.8 million, which includes a noncash impairment charge to goodwill and an indefinite-life intangible asset of $17.8 million. Operating expenses were $5.1 million in the previous quarter. The majority of the increase sequentially was due to the impairment charge that was basically due to the decline in our stock price near the measurement day. Salaries, benefits and payroll taxes and other general and administrative expenses were all lower in the fourth quarter 2018 compared to the third quarter 2018 as we rightsized our operations to match existing and current activity levels.

For the quarter, we had income tax benefit of $2.1 million compared to an income tax expense of $4.6 million in the third quarter. We expect our effective rate to continue to be in the low 20% range.

We had a net loss of approximately $4.4 million in the fourth quarter compared to net income of $12.1 million in the previous quarter. The net loss is primarily attributable to the noncash impairment charge I mentioned before, coupled with lower total volume sold.

For the quarter, we had adjusted EBITDA of $18.7 million compared to $22.1 million last quarter. The lower adjusted EBITDA was primarily due to lower sales volume, which was partially mitigated by lower production costs, payroll and SG&A expenses.

For the full year 2018, we had total sales volume of approximately 3 million tons compared to 2.4 million tons in 2017. This helped us generate total net income of $18.7 million in 2018, which included the impact of the $17.8 million goodwill and indefinite-life intangible asset impairment charge I mentioned previously.

We also generated $66 million of adjusted EBITDA for 2018 compared to $30.6 million for 2017. The improvement in adjusted EBITDA for 2018 over 2017 was primarily due to higher sales volume, including in-basin sales and higher average selling prices, partially offset by increased staffing, utilities, equipment expenses, along with increased transportation charges.

Capital expenditures. In 2018, we spent $126 million, which was split as follows. Approximately $55.4 million was spent on logistics assets between the acquisitions at the Van Hook terminal and Quickthree as well as the buildup of our wellsite storage solutions during the course of the year. These investments have supported our growth from a frac sand-only supplier to a fully integrated frac sand supply and service company offering sand and logistics services from the mine to the wellsite. These services have already proven their value to the company from the increased contribution margin we have been able to achieve from offering value-added services that improve the supply chain for our customers. We also spent approximately $66 million to complete the expansion of our Oakdale facility and for other enhancement and development projects, which brought our total nameplate capacity to 5.5 million tons per year at Oakdale, which occurred in June 2018.

From the completion of our Oakdale expansion, our capital needs have been reduced. Currently, we anticipate capital expenditures to be in the range of $30 million to $40 million for 2019, of which approximately $10 million to $15 million currently is allocated to maintenance and efficiency projects at Oakdale and Van Hook and approximately $20 million to $25 million is allocated to the build-out of additional wellsite storage solutions and potential new terminal investments. Approximately $10 million of the capital for 2019 is discretionary. Whether or not we spend this capital will be driven by market activity and demand over the course of the year, in particular for our wellsite storage solutions.

In terms of guidance for the first quarter of 2019, we currently expect sales volumes to be in the 600,000 to 650,000 range and adjusted EBITDA to be in the $10 million to $14 million range. We're projecting adjusted EBITDA to be down from the fourth quarter 2018 even though we expect sales volumes to be consistent with the previous quarter. This is primarily due to expected lower average selling prices from pricing adjustments in our contracted sales prices from the drop in WTI in the fourth quarter 2018.

Additionally, as we have noted in the past, we typically have higher cost of goods sold in the first quarter due to reduction in our mining and wet plant operations in the winter months, which leads to less cost being capitalized into inventory this quarter relative to the other 3 quarters of the year. However, sales volumes have continued to improve over the course of the first quarter of this year, so we expect to exit at a much higher rate in March than we started the year in January. Currently, we anticipate March sales volume to be in the 250,000 to 300,000 ton range, and right now, we expect this level of monthly sales activity to continue into the second quarter. We will give more detailed guidance on the second quarter during our first quarter earnings call in May.

During the fourth quarter 2018, we repurchased approximately 588,000 shares of our stock for approximately $2 million. The board's authorization that was put in place in November 2018 remains in effect and allows us to repurchase up to an additional 1.4 million shares.

As of December 31, 2018, we had approximately $1.5 million of cash on our balance sheet. In the fourth quarter, we generated $17.2 million of cash flow from operations compared to $14.9 million in the third quarter, even with lower sales volume over the prior quarter, which brought our total cash flow from operations for 2018 to $50.9 million.

At December 31, we had $44.5 million drawn on our credit facility with the full remaining $15.5 million available to support our liquidity needs. We amended our credit facility in February to extend the maturity date to June 30, 2020, and agreed to reduce the facility commitment to reach $15 million by the year -- end of 2019. Our plan is continue to look for options to refinance this facility in 2019, but this extension allows us more time and flexibility to evaluate and execute on the optimum long-term source of capital and liquidity for the company.

We continue to have one of the lowest leverage balance sheets in the industry. At year-end, our net debt was less than 1x our adjusted EBITDA. We expect to continue to generate positive cash flow from operations and plan to manage our capital spending to minimize borrowings at our credit facility. With our current expected cash flows from operations, current availability under the credit facility and other available sources of borrowings, we believe we have sufficient liquidity to support all of our activities.

This concludes our prepared comments, and we now open the call for questions.

(Operator Instructions) And our first question will come from the line of George O'Leary with TPH & Co.

Nice to see some of the on-site proppant management systems go under contract. I wondered if you guys could provide just a little more color on how to think about that business of realizing CapEx as being allocated there, but how many systems you guys could potentially deploy, kind of the economic to think through that as we mull over rolling that into our models for the year.

Yes, I'll talk -- this is Lee. Thanks, George. I'll talk a little bit about the economics, and then John or Chuck can talk about this overall activity level for this business. But as we've said in the past, our average cost for a fleet is about $1.5 million, and we continue, based on the contracts we put in place currently, expect to get about a 2-year payback or less on that investment. So that's kind of how the math is looking and continue to look in terms of the economics. Also, currently, our operations and kind of built into the capital that we have given guidance to, we're currently producing roughly one fleet a month in our facilities. So we have the ability to kind of be building one fleet a month that we could add to under contract over the course of the year.

Great. That's very helpful. And then on the logistics side of the equation. Clearly, Van Hook is paying off, and you indicated that volumes would be ramping there throughout the year. What else is there to do on the logistics front? Or is it more just about maximizing utilization at Van Hook in 2019?

So George, I think basically the way and what we're doing in Van Hook is our idea of the way sand should moved to all basins. So again, we bought the Plains All-American terminal in Van Hook, ready to go with big rail infrastructure. We think the same thing belongs in the Permian on people's acreage. We think it belongs in the Marcellus on people's acreage. And now that people are actually trying to set the business up and do it for 30 years, we think this is the way it's going to go. And when you move this stuff and you have great flow for the railroads or to the last mile equipment, it basically drives the economics and efficiency. So everything we've done has been built around that, it has been built around big rail movements. And we'll continue to perfect that, and we'll line up with customers that want to do it that way.

Great. I'll sneak one more in if I could. I think you mentioned the fact that volumes would be 250,000 to 300,000 tons in the March time frame this year, so a nice jump up as you progress through Q1, thinking about the 600,000 to 650,000 range you provided for overall Q1 guidance. I wonder if you could peel back the onion there a little bit and provide some color on, regionally, if the increased volumes are -- to those kind of 2 core markets, the Northeast and the Bakken or if what you alluded to is regards to Permian seeing some issues related to in-basin sand and other factors that may be related to that in-basin sand, if the Permian is actually adding to that growth in the March time frame versus February.

Yes. So George, John here. So the growth that you're alluding to in March, kind of the increase in volume we're seeing, is broad-based and it's across-the-board to all basins. Interestingly though, there's a good chunk going into the Permian, what we believe, is in response to some potential well results that operators aren't happy with. So it remains to be seen kind of what that looks like over time. But this year appears -- it's kind of the opposite of last year, where we started the year very strong and kind of finished slowly. This year appears that kind of we're starting a little bit late but the volume looks like it's going to be relatively robust, based on our conversations that we're having with customers on both spot and contracted.

And George, one of the things that kind of put challenge out to you guys, the analysts, is we think you guys need to dive deep into the E&Ps that use the Northern White and how their wells are standing up in regards to the E&Ps that have gone to regional, because we think they're all under a lot of pressure on cash flow and long-term cash flow. And we think once you start looking at that a little closer, you start seeing that Northern White makes sense, move properly with big unit trains.

And our next question will come from Stephen Gengaro with Stifel.

Can you give us a sense, please when you think about first quarter volumes? What are -- is the contracted percentage similar to what you talked about earlier as far as 58% of your volumes contracted for the year? Is that a good way to think about it? Or is it different in the first quarter?

Well, I think in the first quarter, it's going to -- contract volumes will be a little bit higher than that, but we actually had some pickup in spot. In the fourth quarter, we very -- had very little spot, and so it's nearly all contracted volumes. So what we're seeing here in the first quarter is pretty consistent contracted volumes but a pickup in spot. And we really start to see that pickup really beginning into February and March, although our contracted volumes are also picking up as activities is picking up for them as well. So I'd say it's probably going to be maybe, in terms of volume split for the first quarter, may be 70% contracted, 30% spot, give or take.

And what's interesting about the Permian sand, in particular, is we -- from what we hear out there, there's available capacity at Permian mines, yet there's Northern White rolling into the Permian Basin right now. So it's very interesting. Not everyone's coming out and telling us about what's happening and why that's happening, but we think we kind of can read between the lines.

And just a reminder, the 58% of our total capacity, it wasn't of our volumes in the fourth quarter, so 58% of our total capacity, 5.5 million, as we highlighted, we do expect some of our contracted customers to not take their full volumes in the quarter, and we'll have additional shortfall payments in the first quarter as well.

So just to be clear, that 58% number you gave was contracted volumes of your capacity for 2019?

Yes. We have 5.5 million tons of capacity, of which roughly 58% of it is under contract currently.

Okay. That makes sense. And then just on the Permian issue, you bring up an interesting point about Northern White volumes coming in. Have you dug deeper? I mean, is it -- do you think it's well result-related? Do you think it's contracted volume-related coming out of some of the Northern White mines? And maybe dug deeper into that, can you give us your perspective?

Well, I think -- yes, I think there's probably a number of reasons. Certainly, we believe that a lot of this has to do with well results, right. We've had regional sand in the market now for anywhere from 12 to 24 months down there. So even operators are getting their results back now, are kind of seeing kind of first year decline curves and things like that. So certainly, we believe that's part of it. But we also believe logistics are a big part of this, right? There's been some recent news articles where operators in the Kermit area are trucking sand to a rail terminal, putting out rail for 20, 30 miles and then trucking it to the base and to get out of some of its congestion, and that's before the bulk of the capacity is online there. So we think from a logistics standpoint, you're trucking sand 100 miles from, let's say, Kermit area into the Loving area becomes very difficult from a sustainability standpoint, whether it's shortage of truckers or truckers not willing to work for that money. And every one of those pieces has an economic impact, which takes into account what your upfront savings are by using regional sand versus what your well results are. And every time you chip into that amount of money, you lose some of the incentive for using regional sand. So we think it's kind of a broad-based issue with the regional sand down there. I don't think we're saying that regional sand has no place. We just think that some of the operators more concerned about years 2, 3, 4 in their wells are definitely going to be looking towards making sure that the decline curves are shallow.

I had additional -- we add, as these majors are getting serious about fracking and setting up long term, they're going to push the envelope with the railroads on larger train size, which we think will drive efficiency. And we -- quite honestly, we believe that if a petroleum engineer has their pick and economics become pretty close, that they absolutely will go with the Northern White. And the other point we want to make about that is that finer mesh Northern White, especially 40/70, is not as big a supply as what everyone thinks it is because there's a lot of mines that are sitting up in the north. They are very coarse mines because everyone wanted 20/40 before, so we think that plays into the whole picture here too.

And if I could just slip in one follow-up to that is, have you seen any difference between how the majors are thinking about their sand needs and willingness to use in-basin versus some of the mid-cap names?

I think the majors have a lot of experience with railroad and moving large movements, whether it's crude or whatever. So I think as their supply chain guys get involved in that and really start dialing down on that and then they can show -- like basically, with the railroads, you have to show efficiency to hit a railroad. So in the past, this business is kind of done with things and manifest, slow things down on the rail, hasn't been a great business for the railroads. But if someone's driving efficiency and knows that they can use 10 million tons a year or 8 million tons a year and they can go to this bigger train movement and say hey to the railroads, "Listen, we're going to do this no matter what, and we're going to commit to this." Then the railroads can drive the efficiency on their network, and therefore, pricing becomes better.

And our next question will come from the line of Martin Malloy with Johnson Rice.

Could you maybe speak about what you're seeing in the spot market for Northern White 40/70 and 100 mesh?

Yes, sure. So certainly, beginning about mid-February and continuing through where we are right now, there's been a substantial increase in spot volumes, again, broad-based, both operators and service companies looking for substantial volumes of 40/70. What's driving that? Again, I think we've spoken about that in this call. We think there's a few factors driving that. But it is broad-based, and it's across-the-board in all the basins that we're seeing that increased volumes.

And is that impacting the pricing yet?

Yes. Pricing is recovering a little bit. We were -- we got down into the kind of lower 20s, and now we're seeing kind of the 30s. We're into the 30s now on pricing, and we expect that to continue to increase. Don't know what the rate of increase will be, but the demand is pretty -- the demand for 40/70 and 100 mesh is pretty robust right now.

Okay. And the 30s price, is that for the 40/70?

Yes. We always know things are starting to get good when other sand providers are looking for Northern White sand, right, in the mesh sizes that are in demand. So we feel like it's going in the right direction.

Just to clarify, it's for both -- 40/70 got a little bit of a premium over 100 mesh, but they're both in the 30s.

And one other point I would add is that if you're not doing unit train in this business right now, I think it would be very difficult to play a big role. So I think that, that's super important out there. So the train length should be getting longer, not shorter.

Okay. And obviously, you're a lower cost provider here. Do you expect that we'll continue to see some idling or closures of Northern White mines here next couple of months?

So I'll start this off. I think that the industry really needs to dial down on what mines are closing up, right? So I would say if you don't have massive rail infrastructure, right, and you don't have a reserve base that leans towards fine, being 40/70 and 100 mesh, you should close.

Yes. I think I would just add to that, that one of the -- in the last upturn, right, last year, when we were seeing volumes increasing from Northern White mines, keep in mind that a lot of those mines were just running their tailings piles that they have developed in the 2012-2015 time frame. And those tailings from those coarser mines tended to be fine sand, and they were running that fine sand through their drawing process. Those tailings piles are gone now, which requires them to process their core substrate and that doesn't produce yields that are sustainable.

One other point I'd add. I think you probably will see more pressure on the regional sand mines than you will on the Northern mines to close. So if you're relying on trucking as your source to get sand out, you're going into congestion. And as the railroads work on perfecting their movements and lining up with the larger E&Ps majors to tie us up for a long time and tie their resources up for a long time, I think you'll see regional sand mines that are relying solely on trucking and trucking long distances. I think there'll be a lot of pressure on those.

Okay. If I could sneak in one last question. Could you maybe comment about the outlook for unit trains on the UP down to the Permian?

So I don't really have any update on that. I know that they moved away from the unit train movements. I'm hoping to be able to speak with their management team sometime shortly, NFTA, hopefully.

And our next question will come from the line of John Watson with Simmons Energy.

I was hoping to dig in a little more on the shortfall comment that you made, Lee. I might have missed this, but how many customers did you say are currently paying shortfalls?

We don't give -- we didn't give numbers on the number of customers paying shortfall, but we've had -- it's basically a couple of customers in the fourth quarter and probably be consistent in the first quarter.

Okay, okay. That's perfect. And recent discussions with customers regarding future contracting, can you give us an update there? I agree spot pricings moved higher since Q4. Are you looking to sign additional contracts? Is there appetite for that? And can you speak to maybe the gap between contracted pricing and spot, if those discussions are ongoing?

Yes. I think in the past, we've indicated that our interest is longer-term contracts. In the commodity business, you want your longer-term contracts. You're willing to sacrifice a little bit in current spot pricing markets to secure longer-term contracts because they help you through the lower points. As spot pricing continues to recover and accelerates into 30s and potentially up to the 40s and we even got into the 50s last year when it was busy, customers' appetite for signing long-term contracts increases as they see the delta between what their contracted contracts are available at and what they're paying on the spot market. So those conversations are ongoing. We've got plenty of healthy discussions going on with service companies and operators across the basins out there. I anticipate that during the year, assuming that oil stays at a reasonable price and demand continues to increase as we're seeing, we'll be back in the contracts market and signing up long-term contracts.

One other thing I'd like to add to that is as it becomes a bigger volume that needs to be moved, it's very important that we have the scale availability with our mine size to handle that because you can't drive the efficiency with a railroad unless it's a point-to-point movement on big volumes. So we think that the size of the contracts, as far as volume, could be getting to a bigger size.

Well, the other thing to point to that is we do have capacity available to support big contracts as well. So if there's a customer who wants to do big volumes and commit, we do have excess capacity that is available that we can move quickly to meet that need.

Okay, great. And the customers currently paying shortfalls, do you expect any of them in Q2 or Q3 to shift their mindset and want to start taking those volumes?

I don't know really. We don't -- we have healthy demand for our sand right now, right? So we don't project. One thing is, just generally, we never really have problems with customers in upturns. We'll have issues with customers and contracts during downturns, right? So we do think things are looking a little bit brighter right now.

What I can say based on March's activity, our contracted volumes are picking up. So assuming activity stays consistent in March, I would expect our contracted customers to continue to take to their minimum levels or get closer to the minimum levels overall.

Okay, okay. I'll switch gears to Quickthree. The line of sight for deployment of systems, I think you said you all could build one per month. Is there contracts beyond the 4 that are mentioned in the release or expectations -- firm expectations for more than 4 to be deployed at some point this year?

Ask that question again, John, I didn't quite...

Yes, sure. So I think your release mentioned 2 systems working, 2 additional systems that are expected to be deployed, and I believe you said earlier you all could build one per month. I'm just wondering what the line of sight to increase from 4 is, if you have additional contracting discussions that are the ongoing beyond those 4.

So we can -- as far as our -- our manufacturing is very scalable, right? So as we see demand and need, we will bolster that. I'm not sure if that answers your question or if you...

Well, we got 200 contracts today, and we've got 2 that are readily available that we could put in the market in very short term in terms of producing a set of silos, which typically are going to be about a month again to market. So we're not going to give direct guidance as to how to quick we deploy. But if you do the math, John, you could say that we got at least 2 available today. And if we build one set a month, kind of from April forward, that adds another 8 sets that we would have available. So we have roughly 10 sets that we could deploy beyond the 2 sets currently under our current production capabilities.

And we have a follow-up question coming from the line of Stephen Gengaro with Stifel.

Just one quick one. When I think about the shortfall payments, is that a -- can you just give me a little color. Is that a profit you would have earned? Or is that the revenue number? And is it basically kind of a pure profit number when I think about those payments?

Well, it's a revenue number, and it comes in as revenue. And basically, it's not equal to what we would've guide in terms of selling the sand. So basically, it's an effect, a payment to cover our costs. But since we didn't make the sand, a lot of that will drop through to the bottom line of EBITDA. Because by not producing the sand, we didn't have all the production costs associated with it.

Ladies and gentlemen, this concludes our question-answer session for today. So now it is my pleasure to hand the conference back over to Mr. Chuck Young for any closing comments or remarks.

Thank you for joining us on Smart Sand's fourth quarter call and year-end earnings call. We look forward to talking to you again in May.

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program, and you may all disconnect. Everybody, have a wonderful day.