Sitio Royalties (NYSE:STR) may not be a household name, but if you’re looking for high-quality energy plays, STR stock is a great choice.
As you can likely infer from its corporate name, this isn’t your typical oil & gas exploration and production company. Rather, Sitio specializes in owning oil and gas mineral and royalty interests.
There are many advantages to this business model compared to the business model employed by E&P firms, including limited cost inflation exposure, not to mention stunning operating leverage, during periods when oil and gas prices are rising.
However, what makes STR especially appealing is the fact that it is not only a high-yield stock, but it is a growth stock as well.
With this unique combination, the stock (up by double-digits over the past twelve months) is poised to stay a winner, especially as fossil fuel price trends remain very favorable.
An Unexpected Growth Play?
When it comes to oil and gas royalty stocks, the story is typically one about yield alone. Growth, except perhaps growth due to rising energy prices, rarely enters the picture. However, that’s not the case with Sitio Resources.
Granted, when it comes to growth with STR stock, it’s by and large a story of growth by acquisition.
Formed last year, via the merger of two royalty companies, Sitio has continued to acquire other companies in the space, most notably Brigham Minerals, which was purchased in an all-stock merger that closed late last year.
However, while Sitio’s growth may not be organic, the company isn’t pursuing deals for the sake of deals.
As KeyBanc’s Tim Rezvan argued back in a December sell-side research report, the acquisitions Sitio is pursuing are accretive in nature. That is, these deals help to increase earnings per share (or EPS).
As stated in a recent investor presentation, the company follows a disciplined acquisition approach, one that targets an internal rate of return (or IRR) in the mid-teens.
Purchasing net royalty acres at favorable prices, Sitio then wrings out cost efficiencies. This well-developed strategy points to a strong chance of continued earnings growth.
High Yield That Could Potentially Go Higher
Don’t get me wrong, it’s not as if this company plows all of its cash flow into new acquisitions. The company’s current dividend policy is to pay out at least 65% of its discretionary cash flow to shareholders.
Right now, STR stock has a very high forward yield of 11.03%. Sure, there’s a catch. If oil prices drop, this payout will drop as well. That said, fossil fuel price trends remain favorable. For instance, take a look at the latest short-term energy outlook from the U.S. Energy Information Administration (or EIA).
Per the EIA, West Texas Intermediate (or WTI) crude oil prices are expected to remain in the $70s per barrel during 2023, and for most of 2024. The EIA’s forecast also calls for Natural Gas prices to move higher during this timeframe.
Furthermore, these current forecasts may be too conservative. Between Russia’s recent slashing of oil production, and rebounding oil demand from China due to its post-COVID “reopening,” another spike in energy prices isn’t out of the question.
Instead of being at risk of a cut, Sitio’s dividend may actually be well-positioned to grow over the next year or two.
Considering its growth potential, and the high-margin nature of its business, Sitio’s current forward price-to-earnings (or P/E) ratio of around 15 is reasonable, even if at first glance, its valuation appears steep to other types of oil and gas stocks.
Pulling back in recent weeks, following the completion of its merger with Brigham Minerals, today’s prices are a great entry point for a long-term position.
Operating in a highly-fragmented industry, this company’s disciplined, return-focused acquisition strategy is likely to remain successful. Throw in the potential for oil and gas prices to not only remain at elevated prices but possibly move higher.
Put it all together, and it’s clear that the ingredients are in place here for STR stock to deliver outstanding returns in the years ahead.
STR stock earns a B rating in Portfolio Grader.
On the date of publication, Louis Navellier had a long position in STR. Louis Navellier did not have (either directly or indirectly) any other positions in the securities mentioned in this article.
The InvestorPlace Research Staff member primarily responsible for this article did not hold (either directly or indirectly) any positions in the securities mentioned in this article.