SandRidge - Substantial Reserves, Heavy Debt and a Possible Takeover Target

A few years ago we drove to Big Bend National Park (a stunningly beautiful place) through the wild, arid terrain of west Texas. En route I noticed operating oil and gas wells as we neared the park.

At the the time I didn't know it, but this is a prime drilling area for SandRidge Energy (SD), operating from their Fort Stockton field office. SandRidge is drilling and producing in the Pinon field in the heart of the geological formation known as the West Texas Overthrust (WTO).

SandRidge Energy is headquartered in Oklahoma City, its current capitalization is around $1.3 billion. The company focuses on exploration and production, but also gathers, treats, processes and distributes natural gas and oil. Gas constitutes some 86% of reserves. The bulk of activity is in the WTO area, though the company does oil and gas drilling elsewhere in the US. Sand Ridge also gathers and sells CO2 - which is abundant in WTO gas deposits, for re-injection into wells to increase production. A major competitor is the much larger Apache Corp (APA). SandRidge was formerly known as Riata Energy and changed its name to SandRidge Energy in 2006. Here is their website.

The WTO, according to the company's annual report, is relatively unexplored due to difficult terrain, complex geology and a lack of infrastructure in the area. SandRidge is hoping the geologically complex WTO has abundant undiscovered gas reserves and is concentrating its exploration efforts in the area.

According to its 2007 Annual Report, SandRidge had total estimated net proved reserves of 1.516.2 billion cubic feet equivalent as of December 31, 2007, up from 300 bcfe in 2005. Recent natural gas prices are around $4.5 per 1000 cubic feet, so reserves, as of December 31, 2007, currently have an in ground value of $8.2 billion. Compare the $8.7 billion reserve figure to the current market cap of $1.3 billion. SandRidge also has leases or interests in approximately 822,287 natural gas and oil acres. Data for 2008 should be coming out soon. It will be interesting to see how much reserves have increased over the last year.

Thanks to new technology such as horizontal drilling and 3-D seismic mapping, gas reserves, unlike oil, have increased significantly in the US and elsewhere over the last few years. This increase has given prognosticators, such as T. Boone PIckens, the promise of potential OPEC independence. But the infrastructure for expanding the use of this new-found supply of cheap, clean burning fuel is only just starting. Using natural gas to fuel vehicles, for example, is in its infancy. The promise is there but so far it is just a promise.

SandRidge's common stock, at 7.9, is down 88% from its 52 week high of 69. The stock may make a good re-inflation bet. The main attraction to investing in this company seems to be its reserves and ability to grow reserves.

SandRidge, however, has close to $2 billion dollars in debt and only $898,000 in cash. Also, Levered Free Cash Flow is a negative $1.5 billion (see Yahoo Finance). Most of the debt was incurred in the 2006 acquisition of NEG oil and Gas. Declining gas prices and low cash on hand is not good in today's credit environment.

Eventually, oil and gas prices will rebound. Any investment in a company with substantial reserves and high potential growth may be rewarding. In the meantime though, I would keep a close eye on the liquidity situation. SandRidge could also be a potential take over target.

Disclosure: No positions yet, but possible with a price drop.

Comments

[Amouna:]

Thanks for the article, very informative. However, I would favor investing in companies with larger proven Gas reserves and more cash on hand like Chesapeake Energy (CHK), which has recently tried to calm investors by selling assets and leases to competitors. Also, in these deleveraged pricing environement, cash rich companies would favor ones with all the infrastructure already in place, and CHK is well positioned for that.

Feb 17 04:59 PM

[WaterBuffalo:]

CHK is burdened with debt as well...not to mention McClendon is leveraged to the hills in his own company....considering he was margin called in the neighborhood of $570 million in one day... Not saying thats a bad thing being so heavily invested in your own company, but a risky move nonetheless. I do own a position in SD, but with the recent weakness in natural gas prices and SD's debt load I have to agree a better bet would be with CHK long term potentially.


On Feb 17 04:59 PM Amouna wrote:

> Thanks for the article, very informative. However, I would favor
> investing in companies with larger proven Gas reserves and more cash
> on hand like Chesapeake Energy (seekingalpha.com/symbo...),
> which has recently tried to calm investors by selling assets and
> leases to competitors. Also, in these deleveraged pricing environement,
> cash rich companies would favor ones with all the infrastructure
> already in place, and CHK is well positioned for that.

Feb 17 11:39 PM

[Gob:]

[Compare the $8.7 billion reserve figure to the current market cap of $1.3 billion. ]

Well, let's not forget recovery costs.

At any rate, I'm long SandRidge.

Feb 18 01:44 AM

[BigOlDave:]

Stuff in the ground/under the sea is all "maybe". Every CEO with lots of "reserves" pumps them as the ultimate source of future wealth. We've seen just the opposite happen to oil and nat gas plays of various caliber. I would consider CHESAPEAKE ENERGY (CHK), with it's phenomenal reserves and savvy management a much better investment than SandRidge Energy.

The SD chart is as ugly as they come. Thanks for including it. That took courage ...or something ... to lay into an article that's so positive.

Feb 18 02:31 PM

[PeteK:]

For SD at this price,
why not. These days almost
no company without debts.

Mar 11 04:49 AM

[denaliguide:]

Bruce, that was a helpful article. I found SD thru some of my technical scans last week where it came in 1st in Reversal Potential.
This is STRICTLY short term, for the reversal develop, as I always look for something with 30% potential for a SPEC. I take it that APACHE is the potential suitor, but the leverage of the debt against the assets, might deter an immediate take over.

The short term volume pattern was the most positive of perhaps 25 semi-finalists in last weeks ratings, and therefore earned the stock first place.

I expect the stock to move, and then I will evaluate whether to stay in it for a longer ride.

DG

Jul 14 03:41 PM