Good day, and thank you for standing by. Welcome to the Viper Energy Partners First Quarter 2023 Earnings Conference Call. At this time, all participants are on a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during that session, you'll need to press star one one on your phone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star one one again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Mr. Adam Lawlis, Vice President of Investor Relations. Sir, please go ahead.
Thank you, Chris. Good morning, and welcome to Viper Energy Partners first quarter 2023 conference call. During our call today, we will reference an updated investor presentation which can be found on Viper's website. Representing Viper today are Travis Stice, CEO; Kaes Van't Hof, President; and Austen Gilfillian, General Manager. During this conference call, the participants may make certain forward-looking statements relating to the company's financial condition, results of operations, plans, objectives, future performance and businesses. We caution you that actual results could differ materially from those that are indicated in these forward-looking statements due to a variety of factors. Information concerning these factors can be found in the company's filings with the SEC. In addition, we will make reference to certain non-GAAP measures. The reconciliations with the appropriate GAAP measures can be found in our earnings release issued yesterday afternoon. I'll now turn the call over to Travis Stice.
Thank you, Adam. Welcome, everyone, thank you for listening to Viper Energy Partners first quarter 2023 conference call. The first quarter was a strong start for the year as Viper oil production set a company record for a fourth consecutive quarter. The advantaged nature of this royalty business model was highlighted during the quarter as we maintained our strong free cash flow conversion despite the volatility in commodity prices. Further on that point, Viper's low operating costs and zero capital requirements allow us to convert over 80% of our operating cash flow into free cash flow during the quarter. This metric compares favorably to many operators at around a 40% free cash flow conversion and insulates Viper's free cash flow profile and return of capital during times of commodity price volatility.
Additionally, Viper announced it completed a drop-down transaction of certain royalty interests from Diamondback on operated properties located in Ward County. This transaction was a $75 million acquisition of an overriding royalty interest representing 660 net royalty acres that will provide high NRI exposure to Diamondback's expected development plan in the Southern Delaware Basin. Production on the acquired asset was roughly 300 barrels of oil per day during the first quarter and is expected to increase through the remainder of the year to average over 500 barrels of oil per day for the full year 2023. Looking ahead, we have initiated average production guidance for Q2 and Q3 2023 that implies over 8% growth relative to the first quarter.
On an organic basis, so excluding the impact of a drop-down acquisition, production is growing at over 5% this period, primarily as a result of large Diamondback-operated pads with high Viper NRIs being turned to production. On the capital return front, Viper took advantage of the volatility experienced during the quarter through our flexible return of capital program by opportunistically repurchasing over 1 million units. Since the inception of our unit repurchase program, we have now repurchased over 11 million units for an aggregate of roughly $250 million, reflecting an average price of under $23 per unit. In addition to these unit repurchases, our return of capital program during the quarter is going to also deliver a distribution that represents a roughly 5% annualized yield at today's price.
In conclusion, the first quarter was an outstanding quarter for Viper, and the forward outlook continues to improve as our high-quality asset base continues to attract outsized activity levels. Viper remains differentially positioned to grow production without having to spend a single dollar of capital and with only limited operating costs. As a result, we look forward to continuing to efficiently return substantial amounts of capital back to our unit holders. Operator, please open the line for questions.
Thank you. As a reminder, to ask a question, please press star one one on your phone and wait for your name to be announced. To withdraw your question, please press star one one again. Please stand by as we compile the Q&A roster. One moment please for our first question. Our first question will come from Neal Dingmann of Truist Securities. Your line is open.
Morning, gentlemen. Thanks for the time. My first question is on future activity. Specifically, can you remind me, maybe just in really broad terms, how much of your acreage has what I would call maybe more relatively virgin units where we could see continued large pads boosting the already record volumes versus, you know, a lot of the other acreage out there I know is more on what I would call developed assets where we're seeing more child-type wells?
Yeah, good question, Neal. I mean, I would say, you know, almost all of the Diamondback operated position that we bought from Swallowtail is still, you know, or the vast majority of it is still completely undeveloped. I mean, we haven't even brought on our first pad yet in the Robertson Ranch area where we own, you know, essentially half the minerals at Viper. You know, I think what's fundamentally misunderstood on Viper's growth profile is that this growth profile is not gonna be a flash in the pan over the next two quarters. You know, I think this business can grow significantly over the next few years, even with the E&P business, you know, growing slower or, you know, in some cases in maintenance mode. You know, that's the benefit of this mineral business.
There's a lot, there's a lot of growth to be had because when we allocate capital on the drilling side at Diamondback, we take into account the 58% ownership of Viper into those economics.
Great point. Okay. Then, second question just on capital allocation of the shareholder return. Just wondering, while I know, and Adrian asked earlier, I know at Fang, the allocation decision is largely driven by how you view your share price versus the assumed value, you know, based on mid-cycle prices. I'm just wondering, do you think about that the same way at Viper and, you know, obviously with oil down today now approaching 70, is there any change to your thinking?
Let me say a couple things about mineral valuations, because this is important in why we changed our capital allocation philosophy at Viper to not just distribute every dollar we make. You know, we wanted to retain some flexibility between a buyback of units and a variable dividend. We have a higher base dividend at Viper, so that, you know, that was put in place for a reason. You know, I think generally the public markets are fundamentally mispricing mineral interests relative to upstream assets. We've allocated a lot more capital to own more of the mineral business. If the market continues to misprice mineral values and not understand the benefit of a mineral versus an upstream asset, we'll just simply own more and more of this business like we did in Q1.
You know, second to that, you know, we do look at our NAV at Viper. We're significantly undervalued relative to our NAV at a mid-cycle deck, and mid-cycle at Viper is $60 a barrel, just like it is at Diamondback. The other, you know, validation we have in the mineral market, while I'm not gonna hang our hat on 100% of this, but we are getting blown out in the private market. Absolutely blown out on deals in the private market. We're losing deals by 50%, 60%, 70%. These deals, Neal, are of much lower quality than the acreage position that Viper has today.
While that's an anecdote and we don't base our business on where third-party deals are trading, if third-party deals are gonna continue trading at 50%-70% above where we're trading, we're gonna buy back a lot of units.
Yeah, I agree with you. Glad to see you all leaning into the unit repurchase.
Thanks, Neal.
Thank you. One moment please for our next question. Our next question will come from Paul Diamond of Citi. Your line is open.
Hi, good morning, guys. Thanks for taking my call. Just a quick one for you. Talking about how's it going? Just a quick one for you talking about, you just noted that, you know, some of the private deals are going for 50%, 60%, 70% above, you know, what you guys think is a good value. But you still got a few things done last quarter. Is that kind of trend you're seeing is gonna be a lot more like nuanced and specific? Or do you guys see the market opening up a bit more and just kinda coming back to, I guess, rationality on that front?
Yeah. I was also referring to where Viper's trading on a mineral acre basis. I think, you know, your point is valid. I think, you know, we're getting beat pretty handily on a lot of the, you know, I would say mid-market deals, you know, $20 million-$80 million deals or $20 million-$100 million. I think Viper has a unique advantage with our size and scale to compete in the $500 million + mineral deals. Now, I think those are, you know, fewer and further between. I do think eventually, like a deal like Swallowtail, we had a unique advantage to get that deal done.
You know, that's kind of our playground, because right now in the, in the middle market deals, you know, the numbers being paid are astronomical.
Okay. No, understood. Makes perfect sense. Yeah, I'll leave it there. Thanks for your time.
Thanks, Paul.
Thank you. One moment please for our next question. Again, one moment please. Our next question will come from Derrick Whitfield of Stifel. Your line is open.
Good morning, all, and congrats again on a solid quarter and drop-down transaction.
Thanks, Derrick.
With regard to the drop-down, and I was thinking about some of your comments on the mispricing of mineral assets, I mean, this drop-down was extremely impactful from the perspective of line of sight activity and elevated NRIs. As this was sourced from a ward acquisition at Diamondback over a year ago, I wanted to ask if there are other potential carve-outs from the Firebird or Lario acquisitions that could make sense in the future?
Yeah, Derek, there are none today from that came with the Lario or Viper packages. You know, when we do get a new playground to buy minerals in, that does allow some opportunities to try to buy minerals in those new areas. You know, no drop-down opportunities. To comment on the drop-down specifically, you know, this deal, we have the benefit of figuring out the right timing of when to drop something down between the two companies. You know, this deal wouldn't have made sense to do a year ago, but now that development's happening and there's that forward visibility, you know, it made a lot of sense to be able to get that done ahead of the first large pads coming on in March.
Austen, you want to add anything to that?
No, that's right. I mean, we got it done right around, you know, the ramp up in production, and then still quite a bit of visibility to some high interest pads over the next couple of years. It made a lot of sense for Viper and I think Diamondback to do a deal here this past quarter.
Terrific. With my follow-up, I wanted to focus on a bigger picture question for Permian activity, which I think plays to your benefit relative to your peers. That question is, if we were to assume strip pricing, do you think we've seen peak activity in the Permian for at least the immediate term, given that privates generally have less quality inventory depth and are likely more exposed to weaker gas pricing? Again, the benefit part would just be what percent operated you guys carry today and the visibility you have with that.
Yeah. I think that's a fair statement. I think we've probably seen peak activity in the Permian. Now, you know, we did make a lot of comments on service cost reductions on the Diamondback side. I would say part of that's attributable to other basins, equipment opening up. You know, we've kind of said that this is the year where, you know, publics kind of stay flat and Diamondback and Viper benefit from that, activity-wise. You know, majors increase, we don't own a lot of minerals under majors. Privates, you know, in general are slowing down to either, you know, preserve inventory or sell the company.
you know, this does put us in an advantage with the Diamondback piece, particularly with us allocating so much upstream capital to areas where we have mineral interests, particularly, you know, Central Martin County.
Thanks. That's all for me.
Thank you, Derrick.
Thank you. One moment, please, for our next question. Our next question will come from Leo Mariani of Roth MKM. Your line is open.
Hey, I was hoping you'd provide a little bit more color around this kind of additional $41 million of acquisitions that you guys did, you know, kind of apart from the $75 million drop-down. Was that just kind of a bunch of, you know, little stuff? You know, in the aggregate, obviously, you commented that it's kind of hard to get deals these days given, you know, the overpricing in the markets. Maybe just some color around the recent $41 million of activity.
Yeah, Leo, that was mainly a result of what we kind of call our ground game acquisitions. We're constantly out there, you know, talking to smaller mineral owners. We've seen a lot of competition on more of the marketed deals, like Kaes mentioned, on the middle market size. On the smaller deals, kind of the nuts and bolts, you know, picking up little pieces here and there, we've had a couple more deals shake free here. We've been focused on areas where we like the rock, whether Diamondback's the operator or it's an active operator in the area. These deals are mainly Pioneer and Exxon in Martin County. Still a rock that we feel really good about and have a lot of confidence in what that forward outlook looks like.
A certainly differentiated subset of deals than the marketed deals where we've seen so much competition.
All right. That's helpful. Obviously, in your prepared comments, you talked about how you guys are comfortable sort of de-emphasizing the variable dividend, you know, for the foreseeable future, it sounds like, and doing kind of more buyback just based on where you see the disconnect, you know, sort of on the value here. I guess just curious, when you guys kind of look at this, do you guys kind of take into consideration kind of relative yield of your security, say, versus alternatives in the market? I know a lot of people look at either the, you know, the 10-year, you know, treasury yield or even the two-year these days, you know, with the inversion.
Do you guys kind of pay any sort of attention to kind of where you're trading kind of relative to that on a yield basis when you make these decisions?
I wouldn't say it impacts us on a yield basis. Certainly, from a cost of capital perspective, we do a lot of work on looking at where rates are and where our, you know, where our debt is and what our cost of our debt is, cost of equity. At the end of the day, you know, the value of the equity is the present value of the future cash flows of the business. you know, we think that is fundamentally undervalued for a security that is, you know, as we said, the highest form of security in the oil field, right? you know, a mineral interest, if an operator loses a lease for whatever reason, you know, they have to re-lease from the mineral owner.
If other, you know, other zones become economic, like some of the deeper zones in the Midland Basin are being discussed today, you know, operators have to come to someone like Viper to pay a bonus and re-lease those mineral interests. I would say it's part of the calculus. It doesn't drive the final decision. Really, the final decision is net present value based at a reasonable discount rate.
All right. Thank you.
Thank you, Leo.
Thank you. One moment, please, for our next question. Our next question will come from Tim Rezvan of KeyBanc Capital Markets. Your line is open.
Good morning, and thank you for taking my question. My first question, you know, just following up on a prior one on the acquisitions. You've been, you know, absent from a lot of the larger acquisitions that have happened. You seem to have in a $41 million deal got some third party minerals. How actively do you look at third party kind of minerals? Because it seems like you're sort of posturing that you were really focused on just Diamondback. Is it just if the price is right, you'll do it? How should we think about kind of your willingness to go third party going forward?
Yeah. Good, good question. You know we've kinda shied away from significant amount of third party acquisitions. You know, I think we're certainly still looking at them today. They're just harder to get across the finish line because we don't have what I would say differential knowledge as to the development pace of those positions. You know, you've seen a few deals trade where, you know, there are concentrated positions that you could probably, you know, underwrite some sort of pace of development, but we still just kinda got blown out in terms of value. I think, you know, it's good discipline to not have your name on every trade, but we still think we have, you know, the differential knowledge on the operated side.
Okay. Thanks for that. And then if I could circle back to the cash return framework. In the Diamondback call this morning, Kaes, I think you said, when the stock is down, the variable dividend doesn't matter. That seems to be what, you know, you've indicated with your capital allocation in the first quarter. I believe there is, you know, different opinions in the marketplace about the role of a minerals company and the role of yield to investors. You've also talked about, you know, the discount to NAV, which is probably apparent in any public equity, you know, across the energy landscape. How do you think about the competitiveness of the Viper equity when you have a distribution now that's half of public peers?
you know, holistically, the role of Viper, you know, to investors that are looking for yields?
Yeah. I mean, I think the role of Viper is to create value. The best value we can create right now at these prices, you know, is to spend more money buying back units. You know, I think, you know, the public markets don't see what's going on in the private markets, the public markets maybe misunderstand what the value of a mineral is relative to the upstream. I mean, I think what's happened over the last couple years is that the upstream model actually converged to what the mineral model was prior, right? The upstream models are becoming yield and distribution models, some changing their capital allocation to more buybacks versus distributions.
I think at the end of the day, you know, if we had to pick, we would prefer to distribute more cash at Viper, and repurchase more shares at Diamondback. When there are extreme dislocations, like we've seen, you know, over the last six months or so in pockets, you know, we'll lean into the buyback. Tim, listen, at the end of the day, we think creating value over creating a story, makes more sense.
Okay. I appreciate that. Yes, I think I just have a different view on that, you know, from our conversations with shareholders that, you know, might prefer that yield. I appreciate your insights on that. Thank you.
Yeah. Listen, those are discussions we're happy to have. At the end of the day, we're also the largest shareholder, right? At 58%, we are taking money away from ourselves by not distributing it and buying back open interest in the market. We still think that is the best long-term value lever for both us, Diamondback, and the public shareholders that remain.
Okay. Thank you.
Thank you. I'm seeing no further questions in the queue. I would now like to turn the conference back over to the CEO, Travis Stice, for closing remarks.
Thanks again for everyone participating in today's call. If you got any questions, don't hesitate to reach out using the numbers we provided. Thank you again. Have a great day.
This concludes today's conference call. Thank you all for participating. You may now disconnect and have a wonderful day.