Friday, January 9, 2015

Diamondback Energy Will Be Profitable Even if Oil Prices Stay Low

This article was first published by TheStreet on December 23, 2014. 
By Sarfaraz A. Khan
NEW YORK (TheStreet) -- With exposure to a low-cost region and a healthy balance sheet, Diamondback Energy (FANG) is one of those rare oil and gas producers that can easily weather a down market, even if crude oil prices fail to recover next year.

The Midland, Texas-based company produces oil from the Permian Basin in West Texas. That's one of the lowest-cost oil and gas production regions in the U.S., says Gabriele Sorbara, an analyst at Topeka Capital Markets.
Futures for West Texas Intermediate crude oil have fallen by nearly 39% over the last three months to near $55 a barrel. Diamondback's stock has dropped by nearly 17% during the same period but is still up almost 17% so far in 2014. Shares were changing hands Tuesday morning up 47 cents at $61.54.
Some analysts expect the price of a barrel of crude oil to recover to $70 next year as oil producers scale back capital budgets.
If current low oil prices persist well into 2015, however, oil and gas producers operating in North Dakota's Bakken shale and in Colorado's Niobrara shale will suffer, because they need WTI crude prices at $65 to $75 to break even. Even worse, the industry is overleveraged and underhedged compared to historical standards, Sorbara wrote in a Dec. 8 report. Consequently, in a down market, some producers operating in high-cost plays might even wind up in bankruptcy court.
On the other hand, producers such as Diamondback, Pioneer Natural Resources (PXD) andConcho Resources (CXO) , which operate in the Midland Basin, the core region of the Permian Basin that offers some of the best economics, could continue turning profits even in a sub-$60 WTI oil price environment. This is because these producers require oil to average from $45 to $60 a barrel to break even.
Diamondback owns around 85,000 net acres in the Midland Basin. The company's average costs were a little less than $45 a barrel of oil equivalents in the first nine months of this year, which compares with realized prices of $76.80 a barrel of oil equivalent in the same period.
Furthermore, Diamondback produces more oil as a percentage of its total output than its rivals. This helps its cash margins because oil offers greater value than natural gas, even at current prices. Add in Diamondback's below-average operating expenses, and you have a company that has been able to capture greater cash margin than Permian Basin competitors Athlon Energy(ATHL) , Concho Resources, Laredo Petroleum (LPI) , Parsley Energy (PE) , Pioneer Natural Resources and RSP Permian (RSPP) .
Besides a low-cost structure, Diamondback also has significant hedges in place and a strong balance sheet that should protect it from weak crude prices.
Diamondback has hedged an average of 10,660 barrels a day of oil production at $88.14 a barrel for 2015. This is equivalent to 59% of the company's total production guidance for the current year. Its net debt-to-capital ratio, which is often used to measure leverage, is just 22.6%, lower than the average of 40.6% of mid-cap and 32.5% of large-cap oil and gas producers covered by Topeka Capital Markets.
Diamondback's cash reserves at the end of third quarter were $40.6 million, lower than $53.1 million a year ago. However, the company said during a November presentation that it expects to become cash flow positive from the second half of next year, which will give a boost to its cash reserves.
Overall, the company has $250 million of liquidity, with $210 million from an undrawn credit facility. It also helps that Diamondback is the majority owner and general partner of Viper Energy (VNOM) , a master limited partnership that owns mineral interests on various Permian Basin properties. Diamondback's 89% stake in Viper, valued at $1.4 billion by the company, is an additional source of liquidity that also allows the oil producer to earn distribution income.
Diamondback did not respond to messages from TheStreet requesting comment.