Expanding Royalty Interests Will Secure Long-Term Value Despite Market Volatility

Key Takeaways

• Scalable, asset-light business model and diversified acquisitions support resilient margins, robust cash flow, and stable dividends regardless of commodity cycles.
  
• Structural energy demand, rare mineral rights, and inflation-hedged returns position Sitio for enduring value growth and superior per-share shareholder returns.
  
• Dependence on volatile oil and gas prices, external acquisitions, and operator activity exposes Sitio to instability in future revenue, margin compression, and long-term demand risks.

Catalysts

About Sitio Royalties

Acquires, owns, and manages mineral and royalty interests across premium basins in the United States.

What are the underlying business or industry changes driving this perspective?

• Recent increases in net wells turned in line, production growth, and accretive acquisitions of royalty acres demonstrate Sitio's ability to scale royalty volumes and diversify its revenue base, which should support higher revenues and EPS as operational activity persists.
  
• The company's asset-light, high-margin model-reflected in 90% EBITDA margins and strong free cash flow conversion even in low commodity price environments-positions Sitio to deliver resilient net margins and dividends, making future earnings less vulnerable to downside cycles.
  
• Persistent global demand for energy, particularly from economies like India and China, underpins long-term oil and gas consumption; Sitio's perpetual royalty interests effectively provide multi-decade exposure to this structural demand, supporting long-run cash flows and potential enterprise value growth.
  
• The growing scarcity and value of mineral rights, along with recent inventory increases from new geological zones (e.g., Lower Wolfcamp and Upper Bone Spring), enhance the strategic worth of Sitio's asset base and should eventually be recognized in intrinsic asset value and revenue streams.
  
• Elevated inflation and ongoing investor desire for real asset exposure provide a tailwind to royalty asset valuations; Sitio's inflation-hedged, capital-disciplined return of capital (dividends and buybacks) program is likely to boost per-share earnings and returns, particularly if current market pricing fails to reflect these advantages.

Sitio Royalties Future Earnings and Revenue Growth

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Sitio Royalties's revenue will decrease by 4.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from 6.5% today to 7.6% in 3 years time.
• Analysts expect earnings to reach $42.9 million (and earnings per share of $0.42) by about July 2028, up from $41.6 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $59 million in earnings, and the most bearish expecting $28 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 99.7x on those 2028 earnings, up from 33.9x today. This future PE is greater than the current PE for the US Oil and Gas industry at 12.3x.
• Analysts expect the number of shares outstanding to decline by 3.75% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.85%, as per the Simply Wall St company report.

Sitio Royalties Future Earnings Per Share Growth

Risks

What could happen that would invalidate this narrative?

• The company's update to its 2025 cash taxes guidance is based on lower anticipated commodity prices than originally forecasted, highlighting exposure to long-term declines or volatility in oil and gas prices, which could negatively impact Sitio's future revenues and net earnings.
  
• Management explicitly notes that while drilling inventory has increased, the incremental locations were not part of original underwriting and represent "gravy" rather than core value; this suggests that sustained long-term production growth is dependent on continued favorable geology and unanticipated resource discoveries, introducing risk to future revenue predictability and cash flow stability.
  
• Despite strong current operator quality, Sitio is structurally reliant on operators' capital allocation and drilling activity, and operators are beginning to cut capex or are cautious amid price uncertainties; if operators continue to slow drilling or experience financial strain, Sitio's production volumes and royalty income may start to decline, directly impacting future revenue and EPS growth.
  
• The company's growth relies heavily on external acquisitions of mineral and royalty interests; increasing competition for high-quality assets and potential for overpaying in a consolidating market could compress future ROI, strain free cash flow, and squeeze net margins over time.
  
• No mention is made of long-term transition risks such as decarbonization, regulatory changes, or ESG-driven shifts in capital markets, all of which could gradually erode oil and gas demand, increase compliance costs, or restrict Sitio's financial flexibility and access to growth capital, ultimately posing risks to long-term revenue and valuation multiples.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of $26.2 for Sitio Royalties 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 $32.0, and the most bearish reporting a price target of just $22.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $562.0 million, earnings will come to $42.9 million, and it would be trading on a PE ratio of 99.7x, assuming you use a discount rate of 6.8%.
• Given the current share price of $18.19, the analyst price target of $26.2 is 30.6% higher. Despite analysts expecting the underlying buisness to decline, they seem to believe it's more valuable than what the market thinks.
• 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.