Today I'm back with one of my favorite special situations -- a monster dividend stock that can drive a stock price up quickly. In fact, I think the stock could return as much as 50% in the next year. The ticker is SDR. But you won't be able to find the company on the exchanges. It hasn't yet held its IPO, but I'll give you the name in a moment.
What's so special about that?
If you've been following me on Fool.com, then you know I love special situations. Special situations are unusual investment opportunities that come about irregularly but often hold a lot of value for nimble investors. The most popular of such situations include spinoffs, reorganizations, and IPOs. The more superficially complex, the better, since this complexity deters many investors, making stocks cheaper for you and me. Better still, public finance sites often don't report the latest information for months, creates a lot of confusion and leaves you time to get into the stock.
Today, I'm going to lay out a case for the IPO mentioned above. The company is called SandRidge Mississippian Trust II, and it's a soon-to-be spinoff of SandRidge Energy (NYS: SD) . The parent company is packaging a series of its oil and gas assets into the spinoff and then selling shares to the public. But SandRidge Mississippian Trust II is not your average company; instead, it's a royalty trust, an organization whose entire mission in life is to pay out all its cash flow as dividends every quarter.
Now that sounds interesting. How's it work?
SandRidge Mississippian Trust II is structured similarly to other SandRidge royalty trust spinoffs paying fat dividends, SandRidge Mississippian Trust I (NYS: SDT) and SandRidge Permian Trust (NYS: PER) . Monetizing such assets allows the highly leveraged SandRidge to gain cash now in exchange for a stream of royalties later.
Mississippian II owns a royalty interest in 67 producing wells in the Mississippian region of Oklahoma and southern Kansas, and 206 to-be-drilled wells in the same formation.
The royalty interest allows the trust to receive 70%-80% of the proceeds (excluding production and development costs, but not post-production costs) from the sale of oil and gas located in the wells. The proved reserves consist of 46.8% oil and 53.2% gas, which means that revenues have solid exposure to oil (which has had much stronger pricing recently) and won't be bogged down by very soft gas prices. Plus, oil prices should continue to benefit as the global economy grows.
A huge payout
The prospectus clearly lays out the expected distributions for the next six years. For 2012, the royalty trust is targeting $2.18 per share in distributions, with the first distribution around May 30, meaning, of course, that the IPO will occur before then.
Now, we can't figure the yield, because we don't have the stock price, but recent royalty trusts have come public around $18-$22 per share, and that's about where I peg the Mississippian II IPO to be priced based on its assets. So, $20 per share puts the yield at a tasty 10.9%. And that's not the best part.
The target payout in 2013 is expected to grow 26%, which should give a further boost to the stock price, and 2014 should see a further climb of 9%. The expected payout tops out in 2015, at least according to the oil and gas price and production assumptions used in the calculations.
If we see the stock open around $20, then I won't be surprised to see it run up 50% over the next year or so. That would be pretty comparable to what we've seen in this space. Look at the yield and stock gains for some recent trust IPOs, including Chesapeake Granite Wash Trust (NAS: CHKR) , and one of the granddaddies of the form, BP Prudhoe Bay Trust (NYS: BPT) .
|SandRidge Mississippian Trust I||9.3%||54%*|
|Sandrirdge Permian Trust||9.4%||40%**|
|Chesapeake Granite Wash Trust||11.5%||52%***|
|BP Prudhoe Bay Trust||8.4%||17%|
Source: S&P Capital IQ and Yahoo! Finance. * Since IPO on April 7, 2011. ** Since IPO on August 11, 2011. *** Since IPO on November 14, 2011.
For me, the way to play the Mississippian II is to forget the buy-and-hold mantra. Like most royalty trusts, Mississippian II has a finite life, extending for the next 20 years. But, well before that, the distributions could drop substantially, as production declines markedly beyond 2016. Instead, I expect to invest with a one- or two-year holding period and expect to sell if I see the stock run 50% or so, given a $20 IPO price.
But how safe is that payout? Well, there's at least one protection. SandRidge Energy is retaining 25% of the Mississippian II units as subordinated units. These units will receive nothing if Mississippian II does not meet the minimum distribution payout for common shareholders, which equals $1.75 for 2012 and $2.19 for 2013. So to earn a distribution, SandRidge will have to make sure it at least performs to this minimum standard. But as I noted, it's aiming for much higher payouts.
And like all investments, SandRidge Mississippian Trust II has risks. The most obvious one is common to all commodity industries -- high price volatility. But that could be a good thing if you believe energy prices are going higher in the long term. Still, it could make for a bumpy ride in the stock. Prices will be hedged, but the levels have not been announced yet.
Other risks remain. Actual production may be less than estimated, and its hedging arrangement may result in the trust paying substantial cash. Both would reduce cash available for distribution.
Now, I think this new spinoff has a good probability of success over the next year, as investors become aware of the high and growing dividend. But I don't envision this stock as a long-term holding. If you're looking for high-yielding stocks that can grow their dividends indefinitely, consider the 11 names from a brand-new, free report from Motley Fool's expert analysts called "Secure Your Future With 11 Rock-Solid Dividend Stocks." To get instant access to the names of these 11 high yielders, simply click here -- it's free.
At the time this article was published Jim Royal, Ph.D., does not own of any company 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.
Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.