SandRidge: Don't Miss This Significantly Undervalued Gem

May.28.12 | About: SandRidge Energy, (SD)

In this highly volatile market, I would strongly recommend SandRidge Energy (NYSE:SD) as an investment opportunity. There are certainly some aspects of its balance sheet that are a cause for concern, but overall, the positives outweigh the negatives.

Financial stats

Sandridge has a P/E ratio of 19.28, which is worse than all its competitors. For instance, Apache (NYSE:APA) has a P/E ratio of 7.84, Exxon Mobil (NYSE:XOM) has one of 9.92, Total (NYSE:TOT) has a ratio of 6.56, ConocoPhillips (NYSE:COP) is at 5.69, and BP (NYSE:BP) sits at 4.98.

Despite this negative sign, the profit margin for the firm is at 12.95%. This is among the highest in the industry. One of the reasons is the company's recent oil field acquisitions.

The debt to equity ratio for the company is at 118.09, which is by far the highest in the industry. It is roughly 2.5 times higher than ConocoPhillips, which stands at 48.47. The debt has been well spent, as you are about to see. Still, this high number is a bit unsettling.

The net income of the company has not been consistent. In 2009, it lost $1.77 billion. However, in 2010, it made $190.56 million, and in 2011, it earned $108.65 million. Therefore, the net income has not been very stable over the past three years.

Despite this, there is cause for optimism. As mentioned, the profit margins are extremely high. Also, the company is significantly undervalued. Right now, the market capitalization is only $2.56 billion, whereas the enterprise value is at $5.26 billion.

In other words, SandRidge is worth more than double what it is selling for on the market. So there is significant room for growth if the company performs well in the future. Based on the company's recent acquisitions and projects, there is reason to believe this will be the case.

Projects

SandRidge has some interesting projects that should improve its profits in the future. In March, the company announced that it had raised the amount of money it was borrowing, and also lengthened the maturity of the senior credit facility.

The borrowing base is at $1.75 billion. This was raised to $1 billion from $790 million, which is the previous number. It also lengthened the maturity date from 2014 to 2017. This allowed the company to expand its territory, as you are about to see.

Acquisitions

SandRidge recently acquired Dynamic Offshore Resources, and it just closed the deal for roughly $680 million in cash. The company announced the purchase in February, although it did not close the deal officially until mid-April.

This was a surprising move to some people. One of the reasons is how soon it made the transaction after Dynamic's first public offering. The IPO happened in January, and SandRidge announced it was buying the company shortly after.

How does this help Sandridge?

Well, SandRidge had previously said it wanted to boost its oil production by 200% in the near future. This move should get it much closer to that goal. This is because it immediately gets access to the 62.5 mmboe being held by Dynamic. One of the reasons Sandridge bought this company is that Sandridge engages mostly in shallow shore drilling. Therefore, the acquisition made sense, since more than 50% of Dynamic's resource base is in shallow water.

Sandridge was actually one of the first energy companies to switch to focusing on liquid natural gas. This allowed it to buy part of the Mississippian formation for only $200 per acre. Today, that same land is worth about $4,236 per acre. This is one of the biggest reasons for the company's strong first quarter earnings. It claimed that its 33% increase in oil production for the first quarter is directly tied to this acquisition.

Just like Chesapeake, Sandridge has recently invested some of its assets in the Permian Basin. In fact, today about 40% of the company's reserves are located here. This accounts for roughly 187 mmboe and 30.4% of its production everyday.

The company is also trying to acquire the Mississippian shale, located in Kansas and Oklahoma. It has roughly 8,000 drilling locations on 1.7 million net acres at this location. This could prove promising for the future as well.

Conclusion

As mentioned, SandRidge is mostly focused on shallow drilling today, since it is cheap and relatively simple. This has proven successful in the past.

However, due to the easy accessibility of this oil, other companies are now hot on its heels for these reserves. For this reason, eventually SandRidge will probably have to expand into deeper reserves if it wants to remain profitable and keep increasing its income. Of course, for now the company's current holdings should be sufficient.

Overall, SandRidge is doing quite well financially. Its profit margins are among the best in the industry, largely due to its recent oil field acquisitions. I don't like the company's high debt levels, but I think the money has been well spent.

SandRidge should continue to be profitable in the future. Even if the company continues at anywhere near the current price, the stock price should rise very quickly. The main reason I recommend SandRidge is due to its undervalued stock price. As mentioned, the market capitalization is less than 50% of the enterprise value. There is plenty of room for growth in the future.

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