SandRidge Energy Inc. (SD), Chesapeake Energy Corporation (CHK): Investing in Small Energy Companies Is Dangerous

Page 1 of 2

Modern finance explains that investors are compensated for increased risk with a possible increase in returns. A look at the small upstream firm SandRidge Energy Inc. (NYSE:SD) shows just how true this is. SandRidge Energy Inc. (NYSE:SD)’s CEO, Tom Ward, had a number of side interests that potentially conflicted with SandRidge. The company’s stock price and earnings have behaved poorly and yet, Tom Ward continues to walk away with multi-million dollar salaries.

SD Total Return Price data by YCharts

SandRidge’s economics

In 2012, SandRidge Energy Inc. (NYSE:SD) had production expenses of $14.31 per barrel of oil equivalent (boe). Given that the majority of the firm’s production is highly priced crude oil, there is little reason that the company should be posting such low earnings. It has a five year revenue growth rate 24.71% and yet, it has posted losses in seven of the last 12 quarters. Tom Ward’s $116 million paycheck since 2007 shows where a large portion of these profits have been going. He has also helped saddle the company up with a substantial total debt to equity ratio of 1.69.

SandRidge Energy Inc. (NYSE:SD)

Steep declines in SandRidge’s trusts

SandRidge Energy Inc. (NYSE:SD) has spun off a number of its assets into separate trusts, and investors have been surprised with declining distributions. It is easy to forget that horizontal wells’ production rates can fall off quite steeply. Falling production also hurts SandRidge Energy Inc. (NYSE:SD) as it remains the owner of all of the subordination units of the trusts.

SandRidge Mississippian Trust I (NYSE:SDT) has been around for a little more than a year. In that time, it has seen its dividend fall from $1.07 per share to $0.65 per share. In just seven quarters, its dividend has fallen 40%. Due to overly optimistic projections, SandRidge was recently forced to take a hit as its subordinated units distribution was decreased to $0.50 per unit. Based on current analyst projected 2014 earnings, investors can pick up shares in the trust at forward price to earnings (P/E) ratio of around 7.

With SandRidge drilling more wells SandRidge Mississippian Trust II (NYSE:SDR) has increased its dividend from $0.27 in Q2, 2012 to $0.53 in Q1, 2013. SandRidge is expected to keep drilling new wells for the trust until 2016. Based on 2014 expected earnings, the trust is trading at a forward P/E ratio around 6. The second trust warrants a lower P/E ratio than the first trust, because the second trust’s earnings are 70% derived from cheap natural gas as opposed to 59% for the first trust.

Don’t ignore history

CHK Total Return Price data by YCharts

Chesapeake Energy Corporation (NYSE:CHK) has a similar story to SandRidge. Chesapeake Energy Corporation (NYSE:CHK) had a fiscally liberal CEO who ultimately drove the company to the edge of bankruptcy. Also, the CEO’s ability to purchase partial interests in Chesapeake Energy Corporation (NYSE:CHK)’s wells created questionable conflicts of interest. Chesapeake’s famous purchase of Aubrey McClendon’s personal map collection only made his relation with the company more questionable. Tom Ward worked with Chesapeake Energy Corporation (NYSE:CHK) for an extended period of time before starting SandRidge, and the similarities between the companies should not be too surprising.

Chesapeake Energy Corporation (NYSE:CHK)’s share price has continued to suffer. Low natural gas prices and expensive acreage is not a profitable combination. With a total debt to equity ratio of 1.06, a return on investment (ROI) of (5.2)%, and a profit margin of (11.4)%, there are many better places to park your funds.

Sometimes, bigger is better

Exxon Mobil Corporation (NYSE:XOM) isn’t very attractive and its large size makes replacing reserves difficult, but the company gets the job done. It still benefits from its legacy assets and shows why investors find it easier to trust in large multinationals. The company enjoys a very low cost of production and its refining assets help to even out its earnings. In 2011, its average production costs per boe in the U.S. were $11.14 while its global production costs were only $12.33 per boe.

Page 1 of 2
blog comments powered by Disqus
Insider Monkey Headlines
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months Click to see monthly returns in table format!

Lists

10 Most Influential Papers In Economics

Top 8 Biggest Charities in the US

10 Worst Celebrity Career Moves Ever

Top 10 Best Paid Tennis Stars in the World

10 Cities with High Demand for Nurses

6 of the Worst Greeting Card Messages Ever Crafted

6 Ways to Make Money in ArcheAge and Build Your Empire

10 Foods To Eat To Lower Cholesterol Levels

The 10 Most Hated Television Characters of All Time

The 30 Worst Halloween Costume Ideas Ever Brought to Horrible Life

10 Vocational Skills in Demand Today with Jobs Waiting to be Filled

10 Best Places to Visit in Central and South America

The 10 Greatest Empires in History Which Nearly Conquered the World

The 6 Cheapest Boarding Schools In America 2015

5 Clear Reasons LoL is Better than DotA, Continues to Rule MOBAs

The Only 9 Teams with a Chance to Win the Super Bowl

The 15 Most Common Phobias in America that Induce Fits of Panic

Top 6 Least Expensive Tourist Destinations in 2014

Jim Goetz, Peter Fenton, Jim Breyer: Top 6 Venture Investors for 2014

Top 15 Billionaires in 2014

5 Pitfalls To Avoid When Buying a Franchise

Top 20 Medical Schools in the US – 2014 Rankings

4 Business Strategies that Turned Jamie Oliver into the World’s Richest Chef

6 Qualities That Make You A Good Team Player

10 High Paying Seasonal Jobs in America this Holiday Season

The 10 Busiest Shipping Lanes in the World

5 Most Valuable Brands in China

The 10 States with Highest Substance Abuse Rates Crippling Their Populace

The Top 10 Things to Do Before You Die That Will Echo for Eternity

The 10 Best Selling Items on Etsy

Top 10 Things to Do in Tokyo, the Greatest City in the World

10 Mistakes on Social Media that Can Harm You and Will Probably Get You Canned

The 10 Best Cities to Find Jobs in 2014

The 10 Most Controversial Songs Of All Time to Hit (and get Banned from) the Airwaves

The 20 Biggest IPOs in US History

The 10 Best Places to Visit in Mexico that Are Beautiful and Safe

7 Bad Habits that Age You Beyond Your Years

The 40 Best Fortune Cookie Sayings That Will Leave You Bemused, Befuddled, or Beguiled

10 Foods to Eat Before a Workout to Make Every Drop of Sweat Count

The 5 Best Documentaries On Netflix You Must See

The Most Heartwarming and Inspirational Story Of This Halloween Season, It Will Make You Cry and Jump For Joy

10 Best Party Songs of All Time to Bring the House Down With

5 New World Order Conspiracy Theories that Will Strangle the World

The 10 Highest Rated Movies of 2014

The 10 Largest Container Shipping Companies in the World

The 10 Largest Armies in the World: Who Should We Be Afraid Of?

Best Warren Buffett Quotes on Money You Need to Hear

The 10 Highest Suicide Rates by Profession

The 20 Most Underrated Movies of All Time

The 10 Fastest Growing Companies in America

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!