Devon Energy (DVN 3.13%), Vitesse Energy (VTS 0.99%), and Diamondback Energy (FANG 0.97%) are all high-yield energy stocks with excellent growth prospects. While it's never a good idea to go "all in" in one sector (unless you have a strong view of the price of oil), these three stocks offer good options as part of an income-seeking, diversified portfolio.
Gushing cash
It's no secret that, based on current valuations, the market isn't in love with energy stocks. Highly cyclical stocks often look undervalued due to the market pricing and the volatility inherent in their earnings, which are driven by oil prices. That said, if you take an agnostic view and pencil in an oil price similar to the current price, then these three stocks look like an excellent value.
Image source: Getty Images.
Wall Street analysts usually follow this approach and rarely diverge from assuming the current oil price won't prevail over the long term. As such, the free-cash-flow (FCF) figures and FCF-to-market-cap ratio (free cash flow yield) reflect the current price of oil and its impact on revenue, earnings, and cash flow.
All of this is somewhat of a longwinded way to say, don't look at this table without understanding that the numbers in it are subject to significant revisions based on the direction of the price of oil. Still, there's little doubt the stocks are a good value.
|
Company |
TTM Dividend Yield |
FCF 2024 |
FCF Yield 2024 |
FCF 2025 |
FCF Yield 2025 |
|---|---|---|---|---|---|
|
Devon Energy |
4.1% |
$3.3 billion |
10.5% |
$3.2 billion |
10.3% |
|
Vitesse Energy |
8.8% |
$45 million |
6.4% |
$82 million |
11.6% |
|
Diamondback Energy |
4.7% |
$3.2 billion |
8.5% |
$5.8 billion |
9.2% |
Data sources: marketscreener.com, author's analysis. TTM = trailing 12 months.
Free cash flow and business developments
I've used FCF because most companies base their capital allocation strategies on it. In addition, by looking at FCF, it's easy to see that the underlying potential for all three companies to pay a dividend is even better than implied by their trailing-12-month dividend yield.
In theory, all three could return all the FCF to investors as dividends. However, in reality, companies use cash in a variety of other ways, too, including:
- Paying back debt (which reduces interest payments and improves future FCF generation).
- Buying back shares (which reduces the share count and increase the claim of shareholders on future FCF).
- Supporting asset acquisitions (which will add FCF).
These considerations speak directly to the three companies in 2024.
Devon Energy
Devon Energy's capital allocation plan for 2024 involves using 30% of FCF to repay debt and returning the remaining 70% to shareholders through buybacks and dividends. However, its management believes its stock is undervalued and prioritizes share buybacks this year.
The company pays a fixed dividend of $0.22 per quarter, and after that, the remaining FCF can go to either share buybacks or a variable dividend. Management decided to use $205 million on share buybacks in the first quarter compared to just $82 million on the variable dividend ($0.13 per share). Annualizing the total first-quarter dividend of $0.35 leads to a dividend yield of 2.8% at the current stock price. That might disappoint some investors, but share buybacks reduce the share count. As you can see in the table above, Devon Energy has plenty of potential to increase its variable dividend in 2025.
Vitesse Energy
Vitesse Energy is focused on its fixed dividend of $0.525 (an annualized dividend yield of 8.8%) while investing in development assets in North Dakota. It has also authorized a $60 million share buyback program.
The North Dakota asset acquisitions led management to raise its 2024 production forecast to a range of 13,000 barrels of oil equivalent (boe/d) to 14,000 boe/d from a previous estimate of 12,500 boe/d to 13,500 boe/d. However, the acquisitions also caused management to raise the midpoint of its capital expenditure forecast by $40 million, directly eating into 2024 FCF.
With the new assets added to production in 2025, Vitesse is poised to increase its free cash flow, making its current dividend easily sustainable.
Diamondback Energy
The company's main priority is to complete its merger with privately held Endeavor Energy Resources in the fourth quarter of 2024. As stated in the deal announcement, the deal is expected to result in "significant pro forma cash flow and free cash flow per share accretion."
However, the need to reduce debt following the deal means that Diamondback "reduced our go-forward return of capital commitment to at least 50% of Free Cash Flow from at least 75% previously," according to a letter from CEO Travis Stice to investors.
Diamondback spent $42 million on share buybacks in the first quarter. Still, it didn't make any in the second quarter until the end of April. It will distribute $0.90 per share in its base dividend and $1.07 in its variable dividend, making a total quarterly dividend of $1.97. Annualized, this produces a dividend yield of 4% at the current price. That's an excellent yield under the circumstances.
