Reduced Capital Spending And DUC Reserves Will Improve Operational Flexibility

Key Takeaways

• Increased capital efficiency and strategic asset management aim to improve cash flow and net margins while maintaining operational flexibility for potential market upswings.
  
• Focus on share buybacks over dividends intends to enhance shareholder value and boost earnings per share in the current market.
  
• Market challenges, cost pressures, and strategic cutbacks could limit Diamondback Energy's production and revenue growth, while share buybacks may prioritize short-term gains over long-term expansion.

Catalysts

An independent oil and natural gas company, acquires, develops, explores, and exploits unconventional, onshore oil and natural gas reserves in the Permian Basin in West Texas.

• Diamondback Energy has reduced its capital expenditures by $400 million, while minimally impacting production, which highlights an increase in capital efficiency that could positively affect future net margins by lowering costs for each barrel produced.
  
• The company plans to maintain flexibility in its operations by holding production flat while having more drilled but uncompleted wells (DUCs) available, which positions them well for rapid production increases if market conditions improve, potentially boosting future revenues.
  
• Diamondback Energy anticipates that continued reductions in overall U.S. shale production and capital outlays by other operators will eventually tighten supply and create more favorable oil pricing conditions, which could lead to higher future earnings.
  
• Through strategic asset management, like the potential sale of the Endeavor water system, Diamondback is focusing on streamlining operations and monetizing non-core assets, which might improve cash flow and financial health.
  
• The company is prioritizing share buybacks over variable dividends in the current price environment, believing that repurchasing shares is the best way to increase shareholder value, which could enhance earnings per share (EPS) metrics over time.

Diamondback Energy Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Diamondback Energy's revenue will grow by 4.2% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 31.9% today to 28.0% in 3 years time.
• Analysts expect earnings to remain at the same level they are now, that being $3.9 billion (with an earnings per share of $14.21). However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $5.3 billion in earnings, and the most bearish expecting $2.3 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 20.3x on those 2028 earnings, up from 9.8x today. This future PE is greater than the current PE for the US Oil and Gas industry at 11.3x.
• Analysts expect the number of shares outstanding to grow by 7.0% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.52%, as per the Simply Wall St company report.

Diamondback Energy Future Earnings Per Share Growth

Risks

• The challenging macro environment, including OPEC's decision to increase oil supply in an already oversupplied market and slowing global economies, could negatively impact oil demand and thus future revenues and profits.
  
• Diamondback Energy's response to macro conditions by reducing its capital budget by $400 million and scaling back drilling could lead to lower production volumes, potentially impacting revenue projections.
  
• There is a broader concern about the U.S. oil production situation, with expectations that the supply may roll over, requiring substantial capital investment to maintain or grow production, which could strain future capital allocation and earnings.
  
• Increasing costs, such as the rise in drilling and well casing costs due to tariffs, could squeeze net margins, impacting the company's profitability unless offset by reductions elsewhere.
  
• Market volatility and low oil prices may lead to prioritizing share buybacks over reinvestment in growth, which could limit future production increases and affect long-term revenue growth potential.

Valuation

• The analysts have a consensus price target of $183.616 for Diamondback Energy based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $234.0, and the most bearish reporting a price target of just $145.0.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $14.0 billion, earnings will come to $3.9 billion, and it would be trading on a PE ratio of 20.3x, assuming you use a discount rate of 6.5%.
  
• Given the current share price of $131.98, the analyst price target of $183.62 is 28.1% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.