LNG Exports And Data Center Demand Will Support Long Term Cash Rich Production

Catalysts

About Diversified Energy

Diversified Energy acquires and optimizes long life, low decline oil and gas assets to generate resilient, cash rich production.

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

• Continued growth in LNG exports and data center power demand is set to increase long term U.S. natural gas consumption. This should support volumes and pricing for Diversified’s 1.13 Bcf per day production base and drive higher revenue and EBITDA.
• Scale from the Maverick integration and the pending Canvas acquisition enhances operational leverage and synergy capture. This can lower unit operating costs and expand cash margins and net earnings as production and EBITDA rise.
• Ongoing portfolio optimization and monetization of undeveloped acreage, which the company underwrote at zero value, is expected to provide $40 million to $50 million of high margin annual proceeds. This can accelerate share repurchases and debt reduction, improving per share earnings and equity value.
• Expansion of asset backed securitization financing and disciplined hedging on a larger, low decline reserve base should deepen access to low cost capital and stabilize cash flows. This supports sustained dividend payments and improves free cash flow visibility.
• Broader U.S. investor access from the primary New York Stock Exchange listing, full SEC reporting and increasing index and ETF ownership is likely to narrow the discount to historical EV to EBITDA multiples. This supports a re rating of the share price and a higher equity value relative to current cash flow generation.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Diversified Energy's revenue will decrease by 2.1% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 27.4% today to 7.1% in 3 years time.
• Analysts expect earnings to reach $122.2 million (and earnings per share of $1.14) by about July 2029, down from $503.7 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $326.9 million in earnings, and the most bearish expecting $37.7 million.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 12.9x on those 2029 earnings, up from 1.9x today. This future PE is lower than the current PE for the GB Oil and Gas industry at 14.3x.
• Analysts expect the number of shares outstanding to decline by 7.0% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 10.05%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Long term shifts in energy policy and decarbonization, including potential restrictions on fossil fuel use and incentives for renewables over natural gas, could undermine the thesis that LNG exports and data center demand will continue to support long duration gas consumption, pressuring long term revenue and EBITDA.
• Reliance on acquisition driven growth and asset backed securitization financing exposes the company to tighter credit conditions or reduced ABS appetite. This could raise funding costs, limit future deal flow and erode the spread driven economics that currently support cash flow and net margins.
• Large and long dated asset retirement obligations, even with initiatives like the Mountain State Plugging Fund, may become more costly if regulations tighten or decommissioning capacity remains constrained. This could divert increasing amounts of free cash flow away from dividends, share repurchases and earnings growth.
• The strategy of monetizing undeveloped acreage and pursuing joint development agreements assumes continued strong buyer appetite and attractive drilling returns. A downturn in commodity prices or basin specific weakness could reduce transaction values and drilling activity, weighing on portfolio optimization proceeds and overall earnings.

Valuation

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

• The analysts have a consensus price target of $20.38 for Diversified Energy 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 $28.0, and the most bearish reporting a price target of just $15.0.
• In order for you to agree with the analysts, you'd need to believe that by 2029, revenues will be $1.7 billion, earnings will come to $122.2 million, and it would be trading on a PE ratio of 12.9x, assuming you use a discount rate of 10.0%.
• Given the current share price of $13.24, the analyst price target of $20.38 is 35.0% higher. Despite analysts expecting the underlying business 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.