SDT – Sandridge Mississipian Trust for High Yields

I am looking at SDT as a potential investment for its high dividend yield.

When the market becomes extremely volatile, high dividend stocks become attractive to many investors because of their more certain payouts.

The horizontal Mississipian play that Sandridge Mississipian Trust targets is actually a conventional reservoir, so the reserves are more certain to be recoverable, as compared to shale oil royalty trusts. Because conventional reservoir forecasting has been refined over many years, we can be more certain of the predictions for recoverable reserves made in this case.
At year end last year (2010), SDT had 36 wells producing. The royalty trust has a 90% interest in these wells, meaning it is entitled to 90% of the profits, and a 50% interest in any new wells drilled.

Since the beginning of the year, Sandridge has drilled and completed 23 more wells. By multiplying the number of wells by the amount of interest SDT has in each well, we can arrive at a net number of wells that the trust receives proceeds from:

.5(23) + .9(36) = 43.9 wells

With these 43.9 wells, SDT is currently generating an 11% yield on its current price range, $22-23.
But Sandridge is still obligated to drill 101 more proved undeveloped locations, which would end up giving

.5(101) + 43.9 = 94.4 wells

Now, of course, by the time the new wells are drilled, the old wells will not generate the kind of revenue that they do now.
To get an estimate of the future dividends, let’s look to the Company’s target distributions.
Sandridge has a subordination threshold on its payments that it sets to 80% of its target distribution. If the revenue is below the subordination threshold, Sandridge will give up a portion of its proceeds to match the threshold. So this is a fairly safe level to use as a low estimate.
At this subordination threshold, the dividend yields are as follows for the following years, using a $23 stock price:

Year Threshold Yield Target Yield Incentive Yield
2011 8.06% 10.06% 12.08%
2012 9.80% 12.25% 14.70%
2013 10.54% 13.17% 15.80%
2014 11.70% 14.62% 17.55%
2015 10.47% 13.09% 15.71%
2016 8.52% 10.65% 12.78%
2017 7.39% 9.23% 11.08%
2018 6.63% 8.29% 9.94%
2019 6.11% 7.64% 9.17%
2020 5.76% 7.20% 8.65%
2021 5.47% 6.84% 8.21%
2022 5.17% 6.46% 7.75%
2023 4.86% 6.07% 7.28%
2024 4.58% 5.72% 6.87%
2025 4.32% 5.40% 6.49%
2026 4.09% 5.11% 6.14%
2027 3.87% 4.84% 5.81%
2028 3.67% 4.58% 5.50%
2029 3.47% 4.34% 5.21%
2030 3.29% 4.11% 4.93%
2031 11.08% 13.85% 16.62%
Total Return 138.86% 173.55% 208.26%

 

This means a relatively guaranteed return of capital, but the upside seems limited.

The real upside for this stock could happen if an investor sells in 2014 or 2015, because when the stock yields 14% or so, the market may trade it up above its intrinsic value.

Though this is actually very low risk, I think there are still better opportunities out there. If SDT drops below $20, I may reconsider.

Disclosure: I have no position in SDT or SD. I do not plan to initiate a position in the next week.

All data from the June 30, 2011 10-Q

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