Diversified Gas & Oil: Clear strategy, consistent execution, strong financial results
This week we welcomed back the management team of Diversified Gas & Oil to present at a Yellowstone Advisory webinar. The company has a market cap of £850m and is now a member of the FTSE250 following a number of years of excellent performance. The company reported FY numbers on 8th March and this was an opportunity to present these results and update on the opportunities for further growth. Investors will have been impressed with what they heard. A recording of the webinar can be found here.
Rusty Hutson Jr., Co-founder and CEO, started with a top level run though of performance and reiterated that a relentless focus on operational excellence across the portfolio continues to serve as the bedrock of their strong performance. Despite the challenging gas price environment and the operational complexities brought on by covid, DGOC had another successful year. During 2020 production averaged 100Mboedpd up 18% and the December exit rate production was 103 Mboepd up 8%. Overall reserves stood at 607 mmboe providing many years of production life. Cash flows were excellent with margin increasing slightly to 54% and adjusted EBITDA rose 10% to $301m. The balance sheet is in robust shape with net debt of and net debt/adj EBITDA of 2.2x. Of interest to many in the audience was the steadily rising dividend which is paid quarterly and rose 14% over the year to 15.25c.
One of the attractions of the company is the consistent delivery of the strategy which has not changed throughout its life. There are four clear components: hedge gas prices to limit downside risk, produce strong margins to generate high free cash flows (the FCF yield is currently 25%), distribute 40% of FCF to shareholders and maintain a safe, secure and robust balance sheet.
The business model to achieve the strategy has been equally consistent and throughout the presentation there were references to ESG and sustainability as being central to the model. DGOC doesn’t drill, instead their approach is to buy and then improve the stewardship of existing wells by increasing asset life and production. Ultimately, good ESG is good business and better for all stakeholders and all part of the DNA of the company. Wells are managed to optimise efficiency and reduce emissions, cash flows are protected through hedging of gas prices, competitive wages are paid to employees and strong governance is in place. There is also a safe and systematic program of well retirement and is currently running ahead of their regulatory requirements.
On the production front, COO Brad Gray shared a number of highlights and again ESG is central to this. Reported CO2 emissions were down 27%, reportable incidents were down 34% and board diversity has improved with females making 29% of the board. In fact, 25% of variable executive compensation is now tied to performance on ESG metrics in the current year up from 10% in 2020.
A couple of slides then covered how Smarter Asset Management works in practice with the overall objective to ensure safety across the portfolio, achieve operating efficiencies and empower employees to create daily successes in the field. Some of the investments required can be as little as $2k but production uplifts can be as great as 10x giving very short payback times.
A key part of the strategy is acquisitions and $1.7bn has been spent since the IPO in 2017 at low average costs of gas acquired. Recent relationship with Oaktree means the company is well placed for future acquisitions.
The success of the strategy can also be seen in the strength of the financial metrics. DGOC is one of lowest cost operators with unit costs falling 10% in 2019 and fell a further 10% in 2020. Cash margins were 53% in 2108 and 2019 and grew to 54% in 2020. In response to a question the management feel there is scope for that margin to rise a little further. The forward price curve is continuing to improve too which will aid the financial performance going forward. In 2021, 90% of production is hedged at a floor price of $2.94/Mcf and in 2022 60% of production is hedged at a floor price of $2.81/Mcf and this is being gradually increased at higher prices. Again, the company stressed the importance of hedging to reducing the risk profile of the company.
Another point that the company is keen to get across is that whilst they take on debt to fund acquisitions, they are committed to paying it down regularly. This commitment to paying debt down means that the cost of debt is only 4.7% and the reserve-based lending multiple is less than 1x. Ultimately the debt will be paid down over 10 years without further acquisitions.
In closing, Rusty touched on the Oaktree Capital management relationship and how this partnership adds real credibility to DGOC strength as a premier operator. Rusty assured the audience that the money would be spent on acquisitions when the right ones came along at the right prices. There are likely to be some distressed opportunities, maybe even some bankruptcy situations and these options will be looked at with Oaktree and when they feel the necessary returns can be achieved, they will execute on these deals. There is the potential for 2021 to be a busy year on this front.
We were left with the 5 reasons to invest in Diversified: stable cash flows support a reliable dividend, integrated operations provide low cost structure, strong balance sheet underpinned by low leverage, low average corporate decline of 7% and low capital intensity of owned assets.
This was another excellent update from DGOC. The strategy is clear and management are consistently executing on that strategy to the benefit of stakeholders.
A recording of the webinar can be found here.
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