Evgenii Mitroshin Matador Resources (NYSE:MTDR) is a pure-play Delaware basin operator, choosing to concentrate in an area it knows best rather than diversify its asset base. The Delaware Basin is located on the western section of the Permian Basin and covers a 6.4 million acre area. It is known for being the deepest of the Permian subbasins with the thickest deposits of rock and for being heavily faulted with over-pressured reservoirs on the eastern side. While the bears may point to headwinds in the form of a tight service cost outlook and potential degradation in well productivity in the basin, and a weaker macroeconomic outlook, I believe that Matador has set itself up for success. Let me tell you why: Choosing long-term returns over the short-term Matador Resources has chosen to blaze its own path, choosing not to follow the current trend in the sector of prioritizing cash returns. Instead, it has focused on economic growth and reserve accumulation. This strategy has been supported by good execution in the field. Matador is expected to deliver strong growth in oil and total production in 2023, surpassing industry averages. The company’s growth is supported by its upstream/midstream integration and a deep inventory of low-cost wells with a duration of over 20 years. Instead of allocating capital towards cash returns, management has stated that it will use free cash flow (FCF) to pursue economic volume growth and reserve accumulation. This strategy is especially suitable for a SMID-cap company like MTDR. Matador Resources MTDR’s U.S. shale assets consist of 166,000 net acres, primarily in the Delaware Basin and concentrated in New Mexico. The company is currently operating a seven-rig program across the Delaware Basin, but has the ability to adjust activity levels due to a highly flexible contracting schedule. In addition to its holdings in the Delaware Basin, MTDR also owns approximately 24,000 net acres in the Eagle Ford and 17,000 net acres in the Cotton Valley, though these areas are not currently the focus of the company’s development efforts. The integration of its upstream development with San Mateo Midstream and, more recently, Pronto, also increases confidence in the company’s ability to deliver on targets in a timely manner. According to the company-provided information, MTDR expects to turn four Boros wells to sales in the third quarter of 2022, eight Rodney Robinson wells at Antelope Ridge in the fourth quarter of 2022, and six Rustler Breaks wells also in the fourth quarter of 2022. In addition, the company recently drilled a Jim Pat SWD well at Arrowhead on behalf of San Mateo and expects to turn to sales 12 wells in the fourth quarter of 2022, including eight wells on recently acquired properties, at the Ranger site. Matador has accumulated an enormous acreage in the Permian Basin, which contains over a decade of identified drilling locations. Additionally, the company has an advantage in the Permian Basin due to its 51% ownership stake in San Mateo Midstream, which provides in-basin gathering, transportation, and processing services. This allows the company to efficiently transport and process the products it produces in the Permian Basin. This enviable position provides strong confidence in Matador’s ability to deliver strong economic returns over the next decade. A dividend grower MTDR has also demonstrated a commitment to increasing shareholder value through a growing base dividend. Since initiating the dividend in early 2021, the company has increased the payout to $0.15 per share quarterly, a five-fold increase from the initial $0.025 per share quarterly. Most recently, MTDR increased its base dividend by approximately 50% in early December to $0.40/share. Rapidly paying down debt The company also remains focused on improving its balance sheet. Through 2022, they have repurchased over $300M of bonds, and the number closer to the end of the year was ~$350M of bonds repurchased. Matador Resources A strong balance sheet will provide the company with strategic advantages to build shareholder value through various accretive means. These include continued debt reduction, targeted M&A, and a growing fixed dividend. The company has repurchased $350 million of debt so far this year and is expected to move towards a net cash position in early 2023. The dividend was recently increased by 50%, marking the third hike since initiating the strategy in early 2021. The new dividend yields approximately 1%, and it is expected that management will continue to grow it over time. M&A remains a strategic focus for the company, with a focus on smaller, tuck-in deals that target properties with little current production, allowing MTDR to leverage its operational expertise to extract value. These types of deals are focused on core areas where the company operates, minimizing risk. Strong management ownership is the ultimate incentive to drive returns MTDR is clearly focused on establishing itself as a premier operator in the Delaware basin. While shareholder returns in the short term are not top of mind for MTDR, existing holders can take great comfort in the fact that management and insider ownership is quite high, especially when compared to its peers. The management team owns ~6.1% which gives me strong confidence that long-term shareholder value creation is top of mind for the Matador management team. Strong cash generation to continue Out of nine sell-side analysts I track, the FCF assumption for 2023 ranges between $557M on the low side and $1.3B on the high side. Although official guidance has not been released for 2023, I expect CAPEX will be stepped up 25% this year from $850M in 2022 to ~$1.1B. Assuming $75 WTI and $4.25 MCF gas, MTDR will generate in excess of $800M of FCF (pre-dividend) after accounting for ~$1.1B CAPEX for the year. However, I don’t have to be aggressive in my assumptions to arrive at a bullish case for MTDR because at $800M FCF, the company will have a stellar FCF yield of 10.4% despite my expectation that they will spend more capital towards CAPEX in 2023. Yes, Matador lacks size and scale, but in the real world, a small matador can take down a rather large beast with ease. In the case of Matador Resources, I am happy banking a double digit FCF yield and a growing dividend to boot.
