Diamondback Earnings: Good Execution and Thoughtful Approach to Capital Allocation Remain Strengths

Diamondback’s FANG third-quarter results were solid. However, our fair value estimate falls slightly to $164 from $167 per share, due to slightly higher 2023 capital spending and an increased tax rate (15%-17% from 10%-15%). Our narrow moat rating is unchanged.

There was a lot to like about Diamondback’s earnings, though. Production, at 452.8 thousand barrels of oil equivalent a day (mboe/d), was above the high end of its quarterly guidance (440-445 mboe/d) due to strong execution. Production is expected to increase again in the fourth quarter to a range of 455-460 mboe/d. The downside is that capital spending is running more toward the high-end of guidance at around $2.7 billion. However, even there, Diamondback continues to be highly efficient, drilling more wells, but converting less to production, as fewer wells are needed to reach and exceed volume expectations. Next year, production is expected to grow at a low-single-digit pace while spending less in capital spending than 2023′s $2.7 billion to do so. This should generate more free cash flow to fund Diamondback’s extensive capital return program.

We also like Diamondback’s approach to capital allocation, which should be unsurprising given its Exemplary Capital Allocation Rating. The firm explicitly acknowledges it prefers to pay out more in dividends when oil and gas prices are strong and looks to repurchase more shares when oil and gas prices are weaker. As a result, the focus is on the dividend at present, and we very much agree with this approach. The firm generated $1.5 billion of free cash flow after working capital changes and bought back $56 million in stock at an average price of about $137 per share. In the fourth quarter, they’ve bought back another $32 million at an average of around $147. The base dividend was $0.84 per share while the variable dividend was $2.53 per share for a total of $3.37 per share.