SandRidge Energy was the recipient of another beating after releases from both of the SandRidge Mississippian Trusts showed increased natural gas and lower oil content from completed wells during the fourth quarter. The company is highly levered to the oil content in the Mississippian after management decided to divest the profitable Permian Basin assets for $2.6 billion. CEO Tom Ward stated that he intends to use the proceeds from the Permian Basin sale to strengthen the company's balance sheet in addition to supplying capital to fund its industry-leading acreage position in the Mississippian. With the company's long-term viability riding on the Mississippian Lime, any decrease in oil production will drag the company lower.
With the Mississippian Trusts wells in close proximity to the majority of SandRidge's completed wells, the reports released last week from the trusts should give a pretty strong indication of what to expect from SandRidge when the company releases fourth-quarter earnings on February 28. The SandRidge Mississippian Trust I is missing distribution targets by 10% because of higher natural gas and lower oil content from its interests in the wells in northern Oklahoma. The SandRidge Mississippian Trust II has realized a decrease in total sales volumes of 7% from the previous three months on lower oil production, leading to an 11% lower distribution per unit than target estimates.
What's the problem?
With the reliable cash flows from the Permian Basin a thing of the past, the Mississippian Lime is the only meaningful play in SandRidge's portfolio. Increased gas production from the play will significantly hinder future cash flows, which could revert the company to unsustainable debt levels. The poor performance from the Mississippian Trusts gives plenty of color to SandRidge's fourth quarter, considering that the wells are intermingled within an Area of Mutual Interest (AMI) with a vast majority of SandRidge's wells in Alfalfa and Grant Counties in Oklahoma.
Foolish bottom line
The 11% haircut received after Friday's press release was similar to the drop SandRidge experienced after releasing third-quarter results in November. SandRidge announced experiencing a steeper oil decline than previously anticipated in the Mississippian, with 40% oil content projected, down from 45% for 2013. While the rate of returns can still run upwards of 50% in the play, solely relying on the Mississippian significantly increases the commodity risk since SandRidge divested the Permian Basin assets, which consisted of 80% liquids content.
At the time of publication, Joel South owned no shares of the companies mentioned. The Motley Fool owns shares of Chesapeake Energy.