Morningstar | Diamondback Expects 28% Volume Growth in 2019 While Living Within Cash Flows. See Updated Analyst Note from 19 Dec 2018
We have reduced our fair value estimate to $120 per share for Diamondback Energy after refreshing our outlook for short-term commodity prices. There is no change in our terminal price forecast of $55 per barrel for West Texas Intermediate crude. However, our methodology incorporates strip prices for the first three forecast years, and the recent collapse in WTI crude (down around 40% since October) is enough to damp our valuation.Our updated valuation also reflects a more muted outlook for activity in 2019. The capital budget was set at $2.9 billion, based on an average of 18-22 operated rigs (down from the current rig count of 24). The reduction follows the slump in crude prices. Management remains adamant about operating within cash flows in the upcoming year and will reduce activity levels further if necessary to achieve that goal. Nevertheless, even at a slower pace the firm expects robust growth. At the midpoint, guidance suggests 28% volume growth year on year. Management also noted in the Dec. 18 release that the firm could maintain flat production with just 14 rigs.
If prices recover, we expect the firm to ramp up its operations again, but only to the extent that it can while staying cash flow neutral. A portion of any windfall from higher prices would probably be returned to shareholders via a further increase to the dividend, which will be hiked to $0.75 per share next year from $0.50. Our reduced fair value estimate of $120 still reflects a 36% premium to the last close and keeps the stock in 4-star territory. As our views on long-term oil prices have not changed, the recent sell-off makes the sector look incrementally more attractive, and Diamondback is still our top pick in the upstream space because of its top-tier asset portfolio and commitment to maintaining leading-edge operating costs. We believe the company is well positioned to endure further commodity weakness, if necessary, and can thrive under midcycle conditions.
Diamondback Energy is an independent oil and natural gas company focused on the acquisition, development, exploration and exploitation of unconventional, onshore oil and natural gas reserves in the Permian Basin in West Texas. The company's activities are primarily focused on horizontal development of the Spraberry and Wolfcamp formations of the Midland Basin and the Wolfcamp and Bone Spring formations of the Delaware Basin, both of which are part of the larger Permian Basin in West Texas and New Mexico.
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