Multiple Catalysts, Including The Iraq War III, Could Vault SandRidge Energy Into Profitability

| About: SandRidge Energy, (SD)


Many believe the Iraq War III will lead to a 10% to 20% spike in oil prices. This should increase SandRidge's profits.

SD has cut its CapEx from $2.3B to $1.5B over the last two years mostly through increased efficiencies such as pad drilling.

SD continues to lead the way with the new "stacked wells." These have one vertical with a lateral into two different zone plays (two laterals).

SD recently divested itself of its Gulf of Mexico assets in order to concentrate on its core assets on whose development it is expert.

SandRidge Energy, Inc. (NYSE:SD) is a US oil and natural gas E&P company. It has been losing money for many years. It has been losing less in recent years due to improvements in oil field techniques, management efficiencies, etc. On a net basis it lost only $0.29 per common share in Q1 2014 compared to a much larger $1.03 per common share in Q1 2013. On an adjusted basis SD made $37.9 million (or $0.07 per diluted share) in Q1 2014 compared to $2.0 million (or $0.00 per diluted share) in Q1 2013.

SD had already been getting very close to profitability. The Iraq War III, which many expect to cause a 10% to 20% spike in oil prices worldwide, may finally catapult SD into profitability. The Iraq War could even give SD a bit of a cushion. The profitability state should last not only for the short term, but for the long term as well. SD has only 13% of its liquids volumes unhedged for 2014, but it has 60% hedged with 3-way collars. An oil spike upward from the Iraq War III would not only garner SD more revenues from its 13% unhedged oil and NGLs production; it would ensure that SD got very close to the top collar price for all of its liquids production in 2014. The oil price spike would likely help to keep natural gas prices up too, which are 37% unhedged in 2014 for SD; and it would make it easier for SD to attain higher priced hedges for FY2015, which is now almost 50% unhedged for liquids production and about 80% unhedged for natural gas production. All these things should lead to greater profitability for SD.

SD has been making great progress toward becoming profitable even without the Iraq War III. For instance, it has cut its CapEx from $2.3B to $1.5B in the last two years. Its well costs and LOEs (lease operating expenses) are now at record lows; and the company intends to drive them lower. It recently divested its Gulf of Mexico properties so that it could concentrate on its core business.

SD currently drills wells for $2.9 million per well in the Mid-Continent. It plans on cutting this cost to $2.7 million per well by 2017; and it aspires to cut the cost to $2.3 million per well. With each cut the IRR (internal rate of return) improves. With each increase in the price of oil, NGLs, and natural gas, the IRR improves. SD already uses pad drilling for most of its wells (80% of Q1 2014 wells), and it plans to increase this percentage.

SD is starting to use "stacked wells." What are stacked wells? These are wells that have more than one lateral; and the laterals are drilled in more than one layer. The picture below shows the layers (play zones) of the Mid-Continent:

As investors can see there are many possible zones of good play under SD's Mid-Continent acreage. A dual stacked well will drill laterals into two different play zones from the same vertical. This method of cost savings delivers the equivalent of two wells at a total cost of $5.2 million versus a total cost of about $6 million for two completely separate wells. SD is trying other configurations too; but this dual or multiple stack configuration seems to be the most promising.

SD has also been trying to increase the type curve in order to get increased EURs (expected ultimate recoveries). In Q1 2014 it was successful at this. Its new well results had average 410 Boe/d 30 day IPs versus average 30 day IPs of 366 Boe for wells drilled in 2013. This was 28% above the type curve; and 7 wells had 30 day IPs of 1000+ Boe/d.

SD had the same winter weather problems as everyone else. However, during April 2014 it had a much better month. It hooked up 45 wells in the month of April compared to 71 for the entire Q1 2014. The average April production was over 55 Mboe/d. This supports the full year production plan even after a subpar Q1 2014. The 2014 guidance is for 29.6 MMBoe, although a small part of this production will be from assets divested in 2014. The 29.6 MMBoe production projection for FY2014 is as of May 7, 2014; and it is up from 29.3 MMBoe on February 27, 2014. This amounts to about 20%+ production growth, 30%+ EBITDA growth, and roughly flat CapEx. This is tremendous growth. If SD can achieve it, it should be well on its way to profitability. The extra income due to spiking oil prices (due to the Iraq War III) will only help achieve this. Current analysts' estimates are for a PE of 33.10 for FY2015E. This estimate did not include the price surge from the Iraq War III, which could bring profitability to SD much sooner. It did include the increasing liquids percentage of production. Liquids production is expected to grow 42% in FY2014. Liquids are expected to be 53% of production by the end of 2014.

At the point that SD does achieve profitability, the stock price should pop considerably. Most will believe SD has proven its value at that point; and future growth should only add to that. The Iraq War III is not likely to disappear overnight. The factions warring against each other have been at each other's throats for centuries. Investors can probably count on trouble there for at least the next year. The increase in oil prices due to that and other reasons (such as the Ukraine problems) make SD's outlook that much better. They make SD a buy, although a low one.

The two year chart of SandRidge Energy provides some technical direction for this trade.

The slow stochastic sub chart shows that SD is near overbought levels. The main chart shows that SD has been in a spiky uptrend since July of 2013. This uptrend appears to be strong. The recent geopolitical events are only likely to make this trend stronger. SD's April 2014 results support a strong uptrend too. Insiders have been buying a bit at +2.7% (+4,172,040 net shares bought). This is positive news. CAPS gives SD four stars (a buy rating). I concur.

Investors will want to keep the overall US and world economies in mind. There have been a number of signs of weakness lately. The US Q1 GDP growth was -1.0%. The World Bank recently lowered its outlook for developing countries' GDP growth from 5.3% to 4.8% for FY2014. It lowered the world economic growth estimate from +3.2% to +2.8%. The recent bad geopolitical events are likely to have a further negative effect on world GDP growth. I could go on; but the point is that the actual 2014 GDP growth is very much uncertain at this time. For this reason, investors may wish to average into a position in SD over the next year or so. Traders who wish to play the Iraq War III spike in oil and oil equities may wish to buy right away.

NOTE: Some of the fundamental financial information above is from Yahoo Finance.

Good Luck Trading.

Disclosure: The author has no positions in any stocks mentioned, but may initiate a long position in SD over the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.