I wrote last week about Sandridge Energy wondering if there would ever be an end to the collapse in the share price.
So far the share price is still dropping. We have found some buyers though in the form of company insiders who have put some of their own money into the game.
1) Director William Gilliland – Purchase 100,000 shares at $4.72
2) Director Jordan Daniel – Purchase 75,000 shares at $4.66
3) Director Jordan Daniel – Purchase 50,000 shares at $4.50
I think there is a real benefit to coming in and looking at a company for the first time. In the case of Sandridge we have an existing shareholder base that is ready to throw in the towel. For me, I have no baggage with this company and can be more objective. Here is why I think existing shareholders are willing to depart with their shares at these prices:
1) In 2008 Sandridge stock actually traded above $60 when natural gas was peaking over $10 and seemingly headed higher forever. The recession and the big shale gas discoveries by Sandridge CEO Tom Ward’s old company Chesapeake energy made quick work of prospects for $10 plus natural gas. I think shareholders who once held shares valued at $30, $40 or $60 by the market will pretty much be giving up at this point. It is very difficult to look at this company at $4.50 and be excited to buy because you think it is worth $10 when you once owned it at $50.
2) Existing shareholders bought this because they wanted a natural gas company. With the recent Arena and Forest acquisitions Sandridge has become a much more balanced producer. So many shareholders who did not acquire Sandridge for exposure to oil will be selling.
3) Existing shareholders have recently been massively diluted by these acquisitions. Given that Sandridge paid at best fair prices for these acquisitions this dilution does not taste good.
4) Many existing shareholders are actually former Arena shareholders who have received Sandridge shares because of the acquisition. As they wake up and realize they no longer own Arena but rather Sandridge many of them will surely be selling.
5) The stock price is now under $5. This will likely create pressure from institutions who will not want or be allowed to hold a stock priced under $5.
You can see that existing shareholders have a lot to be unhappy about. And I’m not going to suggest they shouldn’t be unhappy or that Sandridge is a great company. What I will suggest however is that with the oil production picked up in the Arena and Forest transactions Sandridge has become a lot less risky. Through heavy dilution the company picked up cash flow through oil production that has effectively deleveraged the company. So while it might appear to be worth less given the dilution, the certainty of the company being around to realize the value of its asset base is much more certain.
There is a lot to like about Sandridge’s new collection of assets:
- High rate of return oil drilling
- Predictable production profiles
- Low acreage costs
- Low drilling costs
Producing in the Central Basin Platform allows a company create a very reliable cash flow stream once it has hedges in place. And Sandridge has gone out and hedged $1.9 billion of oil revenue over the next few years. As Sandridge moves its drilling mix to be 80% oil cash flow and revenue will move up quickly.
The company also has some non-producing properties that could be sold in the near future to further improve the balance sheet. The current plan is to supplement cash flow with an additional $200mil to $400mil of asset sales.
The company cash flow growth through increased oil production will drive the valuation the market should apply to Sandridge. In 2011 Sandridge should have EBITA of close to $1bil which would suggest something close to $10 per share if the market assigns in normal EBITA multiple. Sandridge should also have plenty of room to run with production increasing well past 2011 and if there is any rebound in natural gas the future hear is even brighter.
I think the bottom line is that you need to take a fresh look at this company in order to appreciate it. $60 per share is a distant memory and this is a company with a completely different asset base now as well as a lot more shares outstanding. I’m buying slowly and hoping the share price continues downward to provide a better bargain.