Brigham Minerals: Double-Digit Production Would Justify Higher Price Marks

Sep. 01, 2022 9:15 AM ETBrigham Minerals, Inc. (MNRL)2 Comments

Summary

  • Brigham Minerals is focused on acquiring oil and gas mineral rights across the U.S. The company operates in some of the richest basins in the United States.
  • In my view, the combination of more acquisitions and a further increase in net activity wells will likely enhance future production.
  • The most interesting is the Delaware Basin, where management foresees seven or more producing zones.

Oil pumps on the background of 100 dollars.Oil industry concept. Raising prices chart

Andrii Zorii

Brigham Minerals, Inc. (NYSE:MNRL) is delivering double digit production growth, and expects to make more acquisition of rights in the near future. In my view, successful production in new zones in the DJ Basin and the Delaware Basin could bring much more proved reserves than expected. Even considering risks from failed geological models, failed acquisitions, and inflation, I believe that the current stock price is cheap.

Brigham Minerals: Strong Drilled But Uncompleted Well Conversions And Beneficial Guidance

Brigham Minerals is focused on acquiring oil and gas mineral rights across the U.S. The company operates in some of the richest basins in the United States:

Our portfolio is comprised of mineral and royalty interests across six of the most highly economic, liquids-rich resource plays in the continental United States, including the Delaware and Midland Basins in West Texas and New Mexico, the SCOOP and STACK plays in the Anadarko Basin in Oklahoma, the Denver-Julesburg Basin in Colorado and Wyoming and the Williston Basin in North Dakota. Source: 10-k

I became very interested in Brigham because of its recent production reports. In the six months ended Jun 30, 2022, production increased by 39%, from 1621 million barrel of oil equivalent in June 2021 to 2268 MBoe in June 2022. Also, with a massive increase in the average price, up to $70/Boe, Brigham reported triple digit sales growth in the last six months.

10-Q

10-Q

The company explained the results by citing strong drilled but uncompleted well conversions in the Permian Basin. I really can't say whether production will be able to grow in the future due to more DUC conversions. However, I believe that there are many other catalysts for production:

Our production volumes increased 8% sequentially to a record 13,019 Boe/d driven by continued strong DUC conversions, particularly conversions in the Permian Basin where production volumes grew by 24% sequentially. Source: Quarterly Report Press Release

In my view, the combination of more acquisitions and further increase in net activity wells will likely enhance future production. In the past, the acquisition of interests in new regions was quite impressive:

10-k

10-k

Let's note that Brigham Minerals reported 9% more production volumes than what was forecasted in February. In my view, the momentum will continue for some time if other factors like the oil price don't change much:

When combined with our acquisition efforts, we were able to maintain an almost constant DUC inventory level even with the aforementioned strong conversions. Source: Quarterly Report Press Release

In total, we ended the second quarter with 11.0 net activity wells in inventory and anticipate our production volumes for the full year 2022 to average between 12,300 and 13,000 Boe/d, which represents a 9% increase relative to our original guidance provided in February. Source: Quarterly Report Press Release

The total amount of reserves is another beneficial feature of Brigham Minerals. From 2020 to 2021, the estimated total proved reserves increased by 42%. I really don't expect the company to deliver double digit growth every year. However, it is good noting that reservoir engineers and geologists are doing such great work. More reserves in the future will likely enhance the company's production figures.

10-k

10-k

With the previous information in mind, many analysts out there are delivering fantastic guidance for Brigham Minerals. I had a look at their numbers for my financial models. The median operating margin would stand at close to 56%, and 2022 net sales would reach $373 million. Let's note that my financial figures are a bit more conservative than that of other financial analysts. With that, it is always good to check the general consensus in the market:

marketscreener.com

marketscreener.com

Balance Sheet

Brigham Minerals reports $24 million in cash, net oil and gas properties of $711 million, and total assets worth $861 million. With very little debt and liabilities, I believe that the company's balance sheet is quite stable.

10-Q

10-Q

Long-term debt is equal to only $73 million, so management will likely receive debt financing if necessary. The list of liabilities is shown below:

10-Q

10-Q

Under My Base Case Scenario, The Implied Price Would Be $33-$34

Under this case scenario, I assumed that management would use the company's technical expertise to build and acquire new assets. As a result, the business model will little by little gain scale, which would enhance its FCF/Sales margin. In this regard, the most interesting is the Delaware Basin, where management foresees seven or more producing zones.

Based on our geologic and engineering data as well as current delineation efforts by operators, we believe our mineral and royalty interests in the Delaware Basin are prospective for seven or more producing zones of economic horizontal development including the Wolfcamp A, B, C and XY; First, Second and Third Bone Spring; and the Avalon. Our Delaware Basin mineral and royalty interests are located in Reeves, Loving, Ward, Pecos, Culberson and Winkler Counties, Texas with our remaining interests located in Lea and Eddy Counties, New Mexico. Source: 10-k

Besides, the company's engineers believe that the DJ Basin could offer at least four or more producing zones. Under this case scenario, I assumed that the company's geological models are sufficiently accurate:

Based on our geologic and engineering interpretations as well as current delineation efforts by operators, we believe our mineral and royalty interests in the DJ Basin are prospective for four or more producing zones of economic horizontal development including the Niobrara A, B and C and Codell formations. Source: 10-k

Under this case scenario, I assumed that the company would increase production when the oil and gas price is elevated. With a declining price, from $71 per Boe to $45 per Boe, and growing production, 2034 revenue would stand at $309 million.

My DCF Model

My DCF Model

With a discount of 8%, conservative changes in working capital, and capex, the net present value of future FCF would be $1.8 billion. With 53 million shares outstanding, the implied fair price would be $33-$34 per share.

My DCF Model

My DCF Model

With a Sufficient Number Of Acquisitions, The Implied Price Would Be $65-$66

Recent acquisitions of interests in the past were very relevant, so I believe that they may happen again in the future. From 2015 to 2019, the net royalty acres increased at a double digit. Recently, production and proved reserves also increased at a double digit. Hence, I believe that assuming a production increase of around 25% in 2024 is realistic.

10-k

10-k

I also assumed that the price of oil and gas would decline, and management would lower a bit the production growth until 2034. Also, assuming an EBIT margin around 55%, 2034 EBIT would stand at $332.2 million. Finally, I used an optimistic effective tax of 15%, which implied 2034 NOPAT of $282 million.

My DCF Model

My DCF Model

Considering growth in capital expenditures, small changes in working capital, and a discount of 5%, I obtained a net present value of future production of more than $3.5 billion. Finally, the implied valuation would stand at $65-$66 per share.

My DCF Model

My DCF Model

My Worst Case Scenario Implied A Valuation Of $26 Per Share

The company depends on third-party operators. Close to 67% of the total amount of revenue in 2021 was coming from operators. Let's note that this is a common practice in the oil and gas industry. However, it is good that I am disclosing some risks. If operators are not sufficiently efficient, or they charge too much for their services, the company's EBIT margin may decline substantially. Besides, under periods of crisis in the oil industry, the activities offered by operators may decline, which may affect production.

For the year ended December 31, 2021, we received revenues from over 178 operators with approximately 67% of our royalty revenues coming from the top ten operators on our properties, four of which each accounted for more than 10% of such royalty revenues. The failure of our operators to adequately or efficiently perform operations or an operator's failure to act in ways that are in our best interests could reduce production and revenues. Source: 10-k

Furthermore, in response to the significant decrease in prices for oil in 2020, many of our operators substantially reduced their development activities, capital expenditures, rig count and completion crews in 2021. Source: 10-k

I also believe that failed acquisitions could happen. As a result, actual production after the acquisition may be lower than expected. Free cash flow expectations would also decline, which would push the company's valuation down. The stock price could ultimately fall.

We depend partly on acquisitions to grow our reserves, production and free cash flow. Our decision to acquire a property will depend in part on the evaluation of data obtained from production reports and engineering studies, geophysical and geological analyses and seismic data, and other information, the results of which are often inconclusive and subject to various interpretations. Source: 10-k

Finally, inflation could also be a disaster for the stock. In the worst case scenario, I would say that future capital expenditures may be higher than expected because drilling and production tools may suffer inflation. In sum, future free cash flow would decline substantially.

By using a production increase of over 1%, I obtained 2034 production of close to 5.06 million Boe. I assumed that the price per Boe would decrease rapidly from $71 in 2023 to $41 in 2034. The EBIT margin would also decrease more rapidly than that in other cases. I assumed an EBIT margin of 43% in 2034.

My DCF Model

My DCF Model

With less capital expenditures than in previous cases, I obtained a net present value of 1.45 billion and an equity valuation of $26 per share.

My DCF Model

My DCF Model

Conclusion

Given the recent increase in production and the expectations of analysts, I believe that Brigham Minerals is a stock to follow carefully. Under most case scenarios, I obtained a valuation that is higher than the current stock valuation. In my view, new acquisitions and new producing zones in the DJ Basin and the Delaware Basin could push the free cash flow up. Even considering risks from dependency on third-party operators, failed geological models, and inflation, the stock price is too low.

This article was written by

I am a hedge fund analyst based in Romania. I love DCF models. I started trading at 13, and also traded for one large institution. I write investment research to help retail investors.Note that I don't give financial advice. Nothing contained in my articles should be construed as investment advice. Any reference to an investment's past or potential performance is not, and should not be construed as, a recommendation or as a guarantee of any specific outcome or profit.Feel free to reach out to me, via comments, on any questions you may have on my financial models.

Disclosure: I/we have a beneficial long position in the shares of MNRL either through stock ownership, options, or other derivatives. 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.

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