April 20th came and went without any official press release from SandRidge Energy (NYSE:SD)(OTCPK:SDOC). As you may know, that day is particularly important to the company as the bank has reduced the credit facility's borrowing base from $500 million to $340 million back in March. Since the credit facility was fully drawn, the company had until the April deadline to post additional collateral.
On one hand, the market was on the company's side. Oil has roared back to almost $45/bbl recently, making oil reserves more valuable. On the other hand, the timing of the entire situation has been terrible, as a failure now could mean that equity holders will miss out on a potential energy bull market should the current trend continue.
Focusing on the present, it is my belief that investors who are worried about the company being pushed into bankruptcy as the result of this particular event can breathe a sigh of relief.
A Brilliant Move By The Management
Let's take a closer look at why the company had decided to withdraw $490 million in the first place back in January. Let's not forget that at the end of 2015 the credit facility was actually undrawn! The press release was rather unhelpful, as the management stated that the funds will be used for "general corporate purposes." However, the company had a whopping $436 million of cash at the end of 2015, with no debt maturities in the next 4 years. This means that the company had more than enough cash to cover ~$220 million of quarterly SG&A and interest expense even if it doesn't make a single penny from sales. So why did the company max out its credit facility?
I believe that the management knew that the upcoming April redetermination (the original redetermination date was scheduled for April instead of March) will most definitely reduce the borrowing base, so they chose to withdraw the funds before that date. It may have looked like a desperate move, but I think it was brilliant.
As mentioned earlier, the company had more than enough cash to cover at least a single quarter of operation. However, the management knew that the company will be running out of cash soon if oil doesn't rebound immediately (thankfully that has been the case thus far). Considering that the credit facility was the company's last source of liquidity, it was the last shot to delay the upcoming liquidity crunch that will certainly tip the company over.
There was no real downside. If oil didn't rebound, the company will go out of business as the market expected. But by withdrawing the funds, the management has bought shareholders much more time. Given the current trend in the commodity market, the strategy has clearly paid off.
What Likely Happened
I envision two scenarios, neither of which will be detrimental to the company's operation in the immediate future, although one is much more favorable. In the likely scenario, given the rebound in oil, the bank would have accepted additional reserves as collateral, meaning that the company would be able to keep the cash. In the worst-case scenario, the company would have to repay $149 million of cash, which should still be manageable given its large cash balance at year end.
The Bigger Picture
While the company will most likely go bankrupt if oil doesn't continue its recovery, I still believe that the common stock is an incredibly cheap option on oil, which is a reason I discussed in my last article on SandRidge. Keep in mind that as is the case for all types of options, if it expires out of the money, you will lose everything. I believe that given the company's cash balance, SandRidge can still maintain operation in 2016 at current spot prices. If you believe that oil could rise significantly in such a short time (and it already has!), then SandRidge Energy may deserve a small slice of your portfolio.
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I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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