SandRidge Energy (NYSE:SD)(OTCPK:SDOC) appears to have significantly decreased its potential runway as a result of the acquisitions it made late in 2015, combined with lower oil prices. SandRidge has a large amount of cash remaining, but has not been cautious in conserving its remaining cash and faces the prospect of massive cash burn in 2016 if oil prices remain near $40.
Spending Precious Cash
I had previously noted that SandRidge required over $80 oil to reach breakeven cash flow, but that it had a reasonable chance of staying afloat for a while due to its sizeable cash position, which was estimated to remain above $500 million at the end of 2016 at $60 oil. However, SandRidge has since used up a significant portion of its cash in moves that have progressively longer payback periods.
I discussed the Pinon Gathering acquisition before. That acquisition used up $48 million in cash, but appeared to have a reasonably short payback period (estimated at 1.6 years), so that acquisition seemed reasonable.
SandRidge then repurchased $100 million of its senior unsecured notes for $30 million in cash and exchanged $300 million in senior unsecured notes into convertible notes. That move did improve its balance sheet, but only to a minor extent given its huge debt burden. As well, the interest savings from those transactions amounted to only $6.4 million per year, resulting in an expected payback period of 4.7 years. This appears to be a negative for a company that only had two to three years of cash remaining at $60 oil.
SandRidge followed this up by acquiring Niobrara shale oil assets for $190 million in cash in November. These assets include 27 MMBoe in proved reserves at roughly $50 oil, so SandRidge paid approximately $7 per BOE of proved reserves. That price is less than the $9 per BOE of proved reserves that Encana's DJ Basin assets fetched in its $900 million sale. However, SandRidge's acquisition involved mostly undeveloped assets, with only 1,000 BOEPD in current production compared to the roughly 23,000 BOEPD that Encana's assets were producing. SandRidge therefore could expect to generate under $10 million in 2016 cash flow from those producing wells and would require substantial investment to access the reserves. This was a risky move for SandRidge as it spent over 25% of its diminishing cash balance to buy assets that will provide limited cash flow and requires significant capital expenditures to generate additional future cash flow.
SandRidge At $40 Oil
SandRidge is significantly affected by lower oil prices since it has only a limited amount of hedges for 2016. It has approximately 16% of 2016 oil production hedged via swaps at $88.36 per barrel. It also has approximately 28% of 2016 oil production hedged via three-way collars. The problem with the three-way collars is that the collars include short puts with a average strike price of $83.14. Therefore, the three-way collars only have a value of $6.86 per barrel despite oil prices being over $50 below the price of oil when SandRidge initiated the collar.
I had previously estimated that SandRidge would burn around $225 million in 2016 at $60 oil. If oil averages $40 during 2016 instead, this rate of cash burn goes up to approximately $425 million if SandRidge attempts to maintain production levels. This assumes that SandRidge can maintain production levels with only $350 million to $400 million in capital expenditures as well.
Between the increased rate of cash burn due to low oil prices, and SandRidge's spending on acquisitions in late 2015, its potential runway has been greatly diminished. I previously noted that SandRidge could end up with $500 million cash at the end of 2016 with $60 oil. Subtract $200 million for the additional cash burn due to $40 oil, and subtract $268 million for SandRidge's acquisitions and debt repurchases, and SandRidge is now projected to only have $32 million in cash at the end of 2016.
SandRidge does have a $500 million borrowing base on its unused credit facility, but it could burn through that in just over a year if oil prices remain highly depressed. As well, if SandRidge needs to utilize its credit facility, that would virtually guarantee that its common shares would have no value.
Notes On Valuation
It appears that SandRidge can generate approximately $700 million to $750 million EBITDA at $90 oil and $3 natural gas. With SandRidge likely burning through most of its cash balance during 2016, it may have $4 billion in net debt (and another $543 million in preferred shares that rank ahead of its common shares) at the end of 2016. With the debt and preferred shares (at par) amounting to over 6x SandRidge's EBITDA at $90 oil and $3 natural gas, it seems likely that the common shares will have minimal value even with a major oil price rebound in the future.
SandRidge's position is challenging due to low oil prices and its use of its cash hoard to fund acquisitions. As a result, if oil averages $40 during 2016, SandRidge could burn through most of its previously sizable cash position. SandRidge appears to have some capacity to repurchase its unsecured debt (it appears to be allowed to spend up to $170 million more doing so). Unless oil stages a relatively strong rebound though, such as $60+ in 2017 and $75+ in 2018, there is a strong chance that SandRidge will run out of liquidity no matter what it does. SandRidge's common shares are also likely to have no value in the long-run unless oil makes it back up to at least $80 to $90.
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