The awful year for investors in SandRidge Energy (NYSE: SD) just keeps getting worse. Plunging oil prices have helped send the stock down a sickening 66% off its most recent high, as shown in this chart.
However, that isn't the only worry dragging the stock down. Investors are growing more concerned over the company's large debt load, as well as its growth prospects given the higher costs associated with SandRidge's core Mississippian Lime play. The company has also had issues with execution, accounting, and losing a top manager. It's fair to say there is a wall of worry at SandRidge right now, so let's take a closer look at these issues.
The big worry with oil prices
Oil is the biggest driver of SandRidge Energy's economics -- before oil prices fell from the $100 per barrel average over the past three years it was fueling 80% of the company's cash flow out of the Midcontinent. So investors worry when oil prices fall. That said, 92% of SandRidge's oil production is hedged through the end of this year, with very solid hedges in place for 2015, as shown on the following slide.
Source: SandRidge Energy Investor Presentation.
That rather robust hedge position insulates the company against plunging oil prices -- to a point. It's that point that has investors fretting. As that slide shows, 8% of the company's production through the end of 2014 is unhedged, which is an issue when oil prices tumble. Another concern is one of the methods the company uses to hedge: 60% of its oil volume is hedged using three-way collars. These protect 100% of the fall in the price of oil from $90.20 per barrel to $70 per barrel when it comes to SandRidge Energy's specific collars. But when oil prices fall below $70, some of the protection begins to erode. For example, if oil prices fall to $65 per barrel, instead of netting $90.20 per barrel the company would have to settle for $85.20. The farther oil prices fall the less protected SandRidge is against that fall, which is a growing concern as oil prices have yet to find a bottom having recently dropped to $65 per barrel.
The big worry with debt
Plummeting oil prices will impact the company's cash flow, so there is growing concern that SandRidge Energy's large debt load could pose a problem down the road. As we see in this next slide, the company's leverage ratio has creeped up in recent quarters as SandRidge continues to outspend its cash flow.
Source: SandRidge Energy Investor Presentation.
A potential drop in cash flow would increase the company's leverage ratio even further. This means SandRidge's liquidity might one day be reduced if the company's credit facility is reduced. A rash of bankruptcies among smaller shale drillers could cause banks to tighten up credit availability for highly levered energy companies.
That being said, SandRidge Energy's overall credit profile and capital structure provide it with significantly more breathing room than many other shale drillers. As the following chart illustrates, the company has no meaningful debt maturities until the end of the decade.
Source: SandRidge Energy Investor Presentation.
The big worry with growth
The final big worry investors have is that SandRidge Energy appears to have no choice but to slow its growth. It is burning through its cash position, and with cash flow likely to take a hit, the company will have less capital to fund growth plans, which were supposed to yield 20%-25% annual production growth.
Another big reason why growth could slow is that new wells are less economically appealing at current oil prices. As we see on the following slide, the economics worsen as oil prices drop.
Source: SandRidge Energy Investor Presentation.
The other thing worth noting from that slide is that the company's 2015 growth plan expected much higher oil and gas prices than we're seeing. Suffice it to say, slowing growth won't sit well with investors.
Investor takeaway
Investors are very worried that plunging oil prices will have a deep and lasting impact on SandRidge Energy's business. However, the company has more hedges in place than most of its peers, and it has plenty of breathing room on the debt side. It seems like investors have overreacted in selling off the stock so deeply. Once oil prices stabilize, we'll likely see SandRidge Energy's stock recover, as investors will then have a better idea of the company's future potential.
