SandRidge Energy's (NYSE:SD) core acreage in the Mississippi Lime could witness some solid oil production growth if the latest technology employed by the Oklahoma-based company turns out to be as successful as claimed. A failure, however, could prove disastrous for this debt-laden company. But if the initial test results -- as well as well rates of fellow Mississippian operator Chesapeake Energy (NYSE:CHK) -- are any indication of future oil production, then SandRidge could be building out a solid portfolio of oil and gas reserves in the Mid-Continent region.
First let's see where the challenges lie.
The "unconventional" among the conventional
The Mississippi Lime had long been a site for conventional drilling. It was only in 2009 that SandRidge Energy drilled the first horizontal well. Most unconventional drilling in the United States occurs on shale formations, so the Mississippi Lime is somewhat unique. As you could figure out from the name, the horizontal lateral is drilled in a layer of limestone. In terms of depth, this limestone layer is relatively shallow at 3,000 to 6,000 feet. This also brings down well costs to about $3 million per well, compared to roughly $9 million for a typical Bakken shale well.
Yet when it comes to fracking, the Mississippi Lime hasn't always been in the good graces of exploration and production companies. Quite a few operators, such as Royal Dutch Shell (NYSE:RDS-A), last year sold off their positions and exited from this limestone play.
Three reasons the Mississippi Lime is challenging
One major concern is that the Mississippi Lime hasn't been unfolding as a typical "resource play." For example, an oil gusher at a particular location may not guarantee a similar well nearby. In other words, there is no consistency in determining the oily sweet spots. Consequently, drilling wells with consistently high production rates was not a simple "rinse and repeat" exercise.
Second, depletion rates were high, which affected the estimated ultimate recovery, or EUR, figures per well. As a consequence, the original reserves had to be written down. Moreover, this means that the operator has to drill a larger number of wells just to maintain existing production rates.
Third, the Mississippian limestone play produces huge quantities of saltwater. This adds to the cost structure as E&P companies have to drill additional wells to dispose of the saltwater. Roughly speaking, the industry drills one saltwater disposal well for every six oil wells.
These challenges force operators to approach the limestone play in a disciplined manner, while simultaneously undertaking a high initial investment. SandRidge Energy chose to do exactly that. Following the 2013 ouster of CEO Tom Ward, the company sold assets in the Permian Basin and the Gulf of Mexico, and paid down some of its debt. It chose to focus wholly on its core acreage in the Mississippi Lime, where it holds about 1.8 million net acres.
Why the second quarter is crucial
So far, SandRidge has been struggling to get its act right when it comes to production. While CEO James Bennett facilitated a fantastic turnaround by instilling fiscal discipline and trimming debt, such improvements are limited in nature. Beyond a point, cost cuts and operational efficiency alone can't boost shareholder value.
In the first quarter, the company connected only 71 of its planned 94 wells in the Mid-Continent, due to a harsh winter. As a result, SandRidge lost 56 drilling days in the quarter while its overall Mississippian production fell 2% compared to the fourth quarter of 2013. Connecting more than 75% of the planned wells wasn't sufficient to increase production.
Technology: The game changer?
Two things, however, stand out from the company's first-quarter earnings call. First, SandRidge made up for the drilling shortfall in the first quarter by connecting 45 new wells in April alone. As a result, management didn't have to amend projected production volumes for 2014.
But the next point really caught my attention. The company drilled a dual-stacked well in Harper County, Kan., with a 30-day initial production rate of 707 barrels of oil equivalent per day. That boils down to roughly 353 Boe/d per lateral. Additionally, the total cost for this multilateral well came to just $5.2 million, compared to the average $6 million for drilling two wells. This is a hugely positive result. Compared to the costs, I don't think production results are bad at all. SandRidge plans to drill three more dual-stacked wells in the second quarter.
Thanks to the advent of 3-D seismic technology, I'm gradually becoming more optimistic about the Mississippian Lime. Energy and production companies can now map their drilling locations more accurately for oil formations. The strong performance in Northern Garfield County, Chester, and Sumner can all be attributed to this groundbreaking technology, which could give a solid boost to production volumes. Chesapeake Energy, for example, has been using 3-D seismic quite successfully in the Mississippi Lime:
SandRidge's Biggest Advantage: Its SWD Infrastructure
SandRidge's biggest advantage is, in fact, its saltwater disposal, or SWD, infrastructure. No exploration company in the United States has such an extensive network of saltwater disposal wells, pipelines, and related infrastructure. Not even Chesapeake Energy enjoys this kind of an advantage.
Note that the SWD system is only about 50% utilized despite SandRidge pumping out 980,000 barrels of water per day. This is inclusive of the 66% higher volumes of water pumped out in 2013. SandRidge's SWD infrastructure eliminates one of the major challenges of operating in the Mississippi Lime. In hindsight, it's not a major surprise why bigger companies such as Royal Dutch Shell exited the limestone play.
The second quarter holds key to SandRidge's promises. From the evidence gathered so far, it looks like good days are ahead, but one can never be too sure. The next quarterly results should affirm our predictions for the long run.
Isac Simon has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.