Courtesy: Your Basin

Investment Thesis

The Midland, TX-based Diamondback Energy (FANG) released its second quarter of 2020 on August 5, 2020.

Despite production down “only” 8.4% sequentially, it was considered a better-than-expected output. However, the good news is not helping when we look at revenues and free cash flow. With a realized price at $15.10 per Beo (before hedge), we can’t celebrate.

All we have left is hope. We hope that demand will resume soon; hope that oil prices will go up and eventually reach $65; hope for a vaccine before the end of 2020.

The investment thesis is quite simple. I cannot recommend FANG as a reliable long-term investment. The lack of free cash flow and increasing debt is not what I consider attractive. However, in terms of trading, I see some opportunity if the stock drop below $33, while WTI oil price can hold above $40.

Travis Stice, the CEO, said in the conference call:

Turning to the second quarter, we dramatically reduced our operated rig count in the second quarter, from 20 rigs on March 31st to six rigs today. In response to historically low commodity prices experienced in the quarter, we made the decision to complete as few wells as possible in the second quarter, with zero wells turned to production in the month of June. We also curtailed 5% of our oil production during the second quarter.

Viper Energy Partners (VNOM), Rattler Midstream (RTLR), and FANG have been struggling a little since the rout experienced in March, and while the stocks have recovered a little from their low, the situation is still concerning.

ChartData by YCharts

Diamondback Energy – 2Q’20 Quarterly Financial Table: The Raw Numbers

Diamondback FANG 2Q’19 3Q’19 4Q’19 1Q’20 2Q’20
Total Revenues and others in $ Million 1,021 975 1,104 899 425
Net income in $ Million 349 368 -487 -272 -2393
EBITDA $ Million 866 714 807 138 -2703
EPS diluted in $/share 2.11 2.26 -3.04 -1.72 -15.16
Operating cash flow in $ Million 666 809 882 849 324
CapEx in $ Million 820 1,204 890 900 581
Free Cash Flow in $ Million -154 -395 -8 -51 -257
Cash and cash equivalent $ Million 326.0 100.0 123 149 51
Total Debt in $ Million 4,472 4,774 5,371 5,677 5,984
Dividend per share in $ 0.1875 0.1875 0.375 0.375 0.375
Shares outstanding (diluted) in Million 165.0 162.8 162.0 158.5 157.8
Oil Production 2Q’19 3Q’19 4Q’19 1Q’20 2Q’20
Oil Equivalent Production in K Boepd 280.4 287.1 301.3 321.1 294.1
Oil Composite realized price ($/Boe)/Hedge $Boe 39.19/ 39.39 36.59 39.28 30.23 15.39/ 22.95
OIL % 68% 65% 65% 63% 60%
Oil in Bo 17,402 17,064 17,937 18,325 16,045
NG in Mcf 21,439 26,271 28,219 32,120 31,857
NGL in Boe 4,538 4,974 5,308 5,538 5,411
Total in Boe 25,513 26,417 27,718 29,216 26,765
READ ALSO  Surge In Chinese Industrial Profits Continues, But Is This Just More "Fake Data"

Source: Diamondback Energy 10Q and Morningstar

Analysis: Revenues, Free Cash Flow, Net Debt, and Oil & Gas Production

1 – Quarterly revenues and others were $425 million in 2Q’20

FANG announced the second-quarter 2020 results on August 5, 2020. Revenues for the quarter were 425 million, with a net loss of 2,393 million. The second-quarter cash operating cost was $6.44 per Boe, down 25.7% from $8.67 per Boe the previous quarter. The company’s adjusted net income per share was $0.15 per share.

Diamondback’s board of directors announced a quarterly dividend of $0.375 per share unchanged from the preceding quarter.

The dividend yield of the company is now 4.2%.

Source: Presentation

2 – Generic free cash flow was a loss of $257 million in 2Q’20.

The generic free cash flow is cash from operating activities minus CapEx. The company is indicating three different free cash flows, but none matches Morningstar and my calculation. FANG’s scenario is a loss of $171 million for the company, according to the presentation.

Source: Presentation

Cash flow from operations is $324 million, and CapEx I used is $581 million, both deducted from the 10Q.

However, the graph above is clearly showing that Diamondback is not making any money by selling the oil and gas it produces. Worse, it is recurring quarterly and at least consistently since 2015.

Free cash flow is what the company could afford for an expense, such as a dividend. The company is paying a dividend yield of 4.21%, which is a cost of $237 million a year. I let you conclude.

3 – Net debt is $5.54 billion in 2Q’20

READ ALSO  A Classic Bubble Is Starting To Deflate

Note: Cash on a FANG’s standalone liquidity is $1.911 billion as of June 30, with cash and cash equivalent of $51 million. Per the presentation:

The debt-to-capitalization of the company at the end of the quarter was 35.7%.

4 – Quarterly Production was 294.1K Boepd in 2Q’20

Production for 2Q’20 was 294.1K Boepd, which was better than expected.

The percentage of oil is 59.94% in 2Q’20. Below is how production is spread between oil, NG, and NGL.

Average oil composite (hedged) in 2Q’20 was down 41.8% from a year ago quarter and down 24.1% sequentially. However, the oil price composite is expected to be much higher in 3Q 2020, fueling hope that the 2Q’20 is a bottom.

The average oil composite before hedging was $15.39 per barrel, down from $39.39 per barrel the same quarter a year ago. We can see that the hedging strategy used by the company has been quite good this quarter.

5 – Updated Guidance 2020 from Presentation

Diamondback expects 2020 average daily production to be 290-305k Boepd from 295-310k Boepd previously, with expected CapEx of $1.8-1.9 billion from $1.5-1.9 billion.

The company intends to complete 153-180 net wells and drill 205-215 gross wells in 2020.

Conclusion and Technical Analysis (Short Term)

Diamondback is another struggling domestic oil company, no surprise here. A quick look at the demand, and we can see that this slump is not going away tomorrow.

The recent news about a vaccine by the end of 2020 that could restart the economy and boost oil demand has helped oil prices to stabilize between $40 and $45 a barrel. Brent was briefly above $45 due to the hurricane’s threat but quickly corrected down to $43 today.

The fact is that “U.S. data showed gasoline demand is faltering although major inventory draws in recent weeks.”

On Wednesday, the Energy Information Administration EIA reported a crude oil inventory draw of 9.4 million barrels for the week to August 28, driven by Hurricane Laura. However, the EIA report also showed that gasoline demand for the week ending August 28 was 8.786 million bpd, down from 9.161 million bpd for the prior week to August 21.

Diamondback is directly related to the WTI oil price and $40. Worse, we are entering the upcoming refinery maintenance season, which is expected to hurt the demand for crude oil.

READ ALSO  Fighting flares between Armenia and Azerbaijan over disputed enclave

Technical Analysis (short term)

FANG was forming a symmetrical triangle pattern until September 1st. The stock is now clearly breaking out in search of new support. The new pattern is not visible yet, but the old resistance should be the new resistance around $40.50 and $41.75. The first support I see is $33.00-$32.50, but depending on the oil prices, we could drop as low as $25.

However, if we look at RSI, we can expect that FANG will not go below $33.

Thus, I recommend accumulating FANG at $33 or lower and start to take the profit off the table above $40.50.

It is crucial to adopt a strategy based on different scenarios about WTI oil prices and continuously adapt your targets.

Author’s note: If you find value in this article and would like to encourage such continued efforts, please click the “Like” button below as a vote of support. Thanks!

Join my “Gold and Oil Corner” today, and discuss ideas and strategies freely in my private chat room. Click here to subscribe now.

You will have access to 57+ stocks at your fingertips with my exclusive Fun Trading’s stock tracker. Do not be alone and enjoy an honest exchange with a veteran trader with more than thirty years of experience.

“It’s not only moving that creates new starting points. Sometimes all it takes is a subtle shift in perspective,” Kristin Armstrong.

Fun Trading has been writing since 2014, and you will have total access to his 1,988 articles and counting.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.