SandRidge Energy: A Strong Long-Term Play

| About: SandRidge Energy, (SD)

In the investing world of oil and gas stocks, one company that has been quietly building momentum is SandRidge Energy (SD). Since going public in 2007, SandRidge has been making bold moves to strengthen its reserves, building a cash cushion to bolster the company's oil producing abilities while spending less money and attention on natural gas. The company's management is being creative and proactive in the building of a solid oil business, which I believe to be a long-term winner.

One reason I see SandRidge as a winner is because it is aggressively boosting its oil endeavors. Of course the company is engaging in the exploration, development and production of oil and gas properties, but it is now more aggressively seeking Texas tea. The company averaged 31 operating rigs and drilled 970 wells last year. Currently, the company has 38 rigs operating, including three drilling saltwater disposal wells, with plans to focus on drilling 1,139 wells in 2012. In the Permian Basin, SandRidge plans to drill 759 wells in hopes of adding to its already 13 rigs drilling vertical wells going as far as 7,500 feet. And, the company drilled 167 horizontal wells in the Mississippian play in northern Oklahoma and southern Kansas last year and plans to increase rigs adding one per month in 2012 while drilling 380 horizontal wells. Additionally, divided into different segments, SandRidge is diversified with its Drilling and Oil Field Services providing pulling units, road construction, trucking, and rental tools, while its Midstream Gas Services segment engages in gathering, treating, and selling natural gas in west Texas.

But, between the lack of cash (highly leveraged with capital expenditures of nearly $2 billion and a cash balance of only $208 million) and the abundance of natural gas with its low selling price, SandRidge's was not looking too attractive. The company's stock is not alone in getting punished because of the natural gas glut. Competitors Anadarko Petroleum (APC) and Apache (APA) have felt the negative impact of the lack of demand for natural gas as has service companies connected to domestic drilling such as Baker Hughes (BHI) and Halliburton (HAL). But the company is gaining momentum based on action taken a few years back.

In 2009, SandRidge decided to redirect its efforts from drilling for natural gas to going after crude, placing most of its energy into drilling. However, with the increase drilling rates, investors have worried about the company's cash flow. Last year, the company went through about $1.8 billion on capital expenditures, only generating $535 million in free cash flow and leaving the company about $1.3 billion short. That is when the company chose alternative resources raising capital to approximately $2 billion since January, 2011. To do this, SandRidge sold 500,000 acres in the Mississippian Project, participated in some joint development ventures, and formed a few royalty trusts: Sandridge Permian Trust (PER), Sandridge Mississippian Trust I (SDT), and Sandridge Mississippian Trust II, which is due to enter the market any day now.

In addition to creative funding, SandRidge is entering into profitable joint ventures. In early February, the company announced an agreement to acquire Dynamic Offshore Resources, LLC for aggregate consideration of $1.275 billion consisting of approximately $680 million in cash and approximately 74 million shares of SandRidge common stock valued at $8.02 per share. Dynamic brings 25,000 barrels of production per day to the current 67,000/day rate of Sandridge's existing wells. SandRidge's Chairman and CEO, Tom L. Ward, (co-founder of Chesapeake Energy (CHK), recently stated, "The value of this acquisition will be evident immediately in our results. We are acquiring these assets for less than PV-10 of the proved developed reserves and at just over $50,000 per flowing barrel. Additionally, we expect these operations to contribute significant free cash flow in excess of the anticipated annual drilling and recompletion capital budget of $200 million." Some analysts believe another joint venture may be in the works, possibly with an Asian company.

By the end of 2011, SandRidge had estimated proved reserves at 470.6 million barrels of oil equivalent and the company also had interests in 5,043 gross producing wells, with approximately 2,695,000 gross acres under lease. Although last year oil production increased by 70% for SandRidge, while overall production was up 16%, natural gas for SandRidge is not dead. The company still has about 8,000 natural gas drilling opportunities across East Texas, Oklahoma, the Gulf Coast, the Gulf of Mexico and in the West Texas Overthrust. According to a recent letter to shareholders, even though natural gas drilling has ceased for 2012, the company expects to profit handsomely when prices return back to some sense of normalcy.

While not pretty to look at, SandRidge's debt to equity is at 1.74 and its return on equity is 3.32%. Comparatively, competitors are as follows: Anadarko, 13.66%, Apache at 17.71%, EOG Resources (EOG) at 9.54%, and Devon Energy (DVN) at 23.13%. The company had 4th quarter 2011 revenues of $373.8M. This was 2.8% above the prior year's 4th quarter results. SandRidge had revenues for the full year 2011 of $1.4B, 51.9% above the prior year's results, and the company reported annual 2011 earnings of $0.01 per share.

The good news is that during 2011, SandRidge's debt, net of cash balances, decreased by approximately $297 million as a result of its efforts to raise capital. As of March, 2012, the company had no amount drawn under its $790 million senior credit facility and close to $205 million of cash, leaving about $967 million of available liquidity. As of this writing, the company is in compliance with all of the applicable financial and other covenants contained in its debt agreements.

Also, the company recently announced that its Board of Directors has declared a $3.50 per share semi-annual dividend on its shares of 7.0% Convertible Perpetual Preferred Stock that will be paid in cash on May 15, 2012 to holders of record on May 1, 2012. The Company has 3,000,000 shares of 7.0% Convertible Perpetual Preferred Stock outstanding.

Another reason I believe SandRidge to be a winner is because of the old "look who's buying this" approach. Though not scientific, it makes sense that if an insider is using their money to buy many shares of their own company stock on the open market, it can only mean one thing: they believe the stock is going to do well and they can make some money on it. Late last month, SandRidge's Director, Daniel Jordan paid almost $400,000 for 50,000 shares at a price of $7.73 per share. Jordan also paid a total of $242,000, purchasing company stock on two occasions in 2011.

With SandRidge's 1.5 million acre holdings in the mid-continent, a low-risk high-return drilling program, stable operating costs, and management's aggressive style of creative funding, I see this stock as a long-term hold and recommend buying at its current stock price.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.